Sunday, December 18, 2011

Ilargi: 2012 may not bring the end of the world, but it will bring the end of the Eurozone and the European Union as we've known them. There are now too many things that can potentially go wrong, and some of them will.

The fact that the European Union counts 27 different constitutions, and the Eurozone 17, makes it either excruciatingly hard or downright impossible to swiftly adopt or change treaties or laws. Treaties such as the last one, agreed on December 9, can therefore far too easily be dragged down into various legal quagmires, and almost certainly will be.

Moreover, in all those European nations there are people willing to fight for their rights. And they will all fight their own fights. Which will not only tear at the seams of the Union, it will destabilize governments, overthrow governments, and not all of these can or will be replaced with technocrats. At the same time, any country that doesn't move in lock step with Brussels can derail the process of changes for all others.

Even if the richer countries try very hard to get rid of the process of unanimous decision making. The entire EU institution has never been an overly democratic one, but the big boys will undoubtedly try to do themselves one better in this regard. Hardly anybody even complains about the unelected governments of Greece and Italy anymore. So they go for the next step in their doomed effort at dismantling representative democracy in Europe. Stephen Castle for the New York Times:

A new treaty to impose tighter discipline among the 17 nations in the European Union that use the euro will come into force once nine countries approve it, according to a draft released Friday. That potentially reduces the threat that disapproval by one nation could scuttle the pact.

The treaty is intended to help improve confidence in the euro by tightening the coordination of the 17 euro zone economies, requiring nations to balance their budgets and cut debt.

The outline of the plan was agreed to by most European leaders a week ago, with the exception of Britain. European officials hope to reach agreement on the eight-page draft of the treaty within weeks, with Britain being offered observer status in discussions.

The treaty will enter into force "on the first day of the month following the deposit of the ninth instrument of ratification by a contracting party whose currency is the euro," the draft states.

That means that if one country held a referendum on the treaty and did not approve it, the decision would not block others from putting it in place once nine other nations ratified it. The terms of the treaty will, however, apply to each country only when the country ratifies it.

If a euro nation fails to ratify the treaty, it would be in an "uncomfortable position" politically, said one European official who spoke on condition of anonymity.

Ilargi: I'd say all Europeans need to think hard about this. The big boys are changing laws on the fly. It goes something like this: Only 9 nations are required to agree to the fact that only 9 nations are required to agree to ... anything at all. And anyone who doesn't follow suit, well, they "would be in an "uncomfortable position" politically".

In this fashion, the politics, especially with regards to the economy, of 17 different nations can be dictated by just a handful (some countries will blindly follow Germany and/or France).

Luckily for the rest of them, this clever scheme won't go anywhere. Louise Armitstead and Philip Aldrick write for the Telegraph :

Germany's cherished European fiscal compact was unravelling as Hungary and the Czech Republic said it would be damaging, and protesters in Warsaw demanded Poland stands firm against Angela Merkel.

Amid fresh warnings that Europe is triggering a 1930s global depression, the German Chancellor faced open rebellion against the key plank of her Brussels accord.

The leaders of Hungary and the Czech Republic told a joint conference in Budapest they were ready to reject the planned treaty changes and implied plans for a centralised tax system. Czech Prime Minister Petr Necas said he was "convinced that tax harmonisation would not mean anything good for us".

Ilargi: Add to that the resistance in Finland, Britain, Sweden, Ireland, and you have a recipe for, if not outright "disaster", certainly long delays. And those delays will easily be long enough to change the focus from the problems of sovereigns to those of banks, as I indicated it would a while back.

Germany will need to bailout Commerzbank. Soon. Not all that big an issue, perhaps. But it has more troubled banks. Add them all up, and you're talking major decisions to be made, as well as a bit of introspection: how to solve things at home instead of at the neighbors.

The largest of those neighbors, France, will face what we might label Commerzbank squared. In the past little while, the main French banks have made some pretty grave announcements, which were mostly snowed under in all the other bad news.

BNP Paribas will leave the global mortgage market, Crédit Agricole will quit the commodities market and SocGen will shut down its U.S. gas and power trading desk. On top of that, even Crédit Mutuel, a credit union writ large, was downgraded.

For BNP to quit the mortgage market can mean only one thing. It's desperate for cash. Ditto for Crédit Agricole's move away from commodities. These are the very lifelines for banks of their size in good to moderately good times. They throw out their feet on the ground revenue streams, because they need all the cash they can gather.

Société Générale's decision is indicative not only of that same principle, it also casts a major blinding light on another problem: financing for the energy industry. Andrew Peaple in the Wall Street Journal :

For oil and gas explorers, turning reserves into production isn't a cheap business. Thanks to the European banking crisis, it's about to get even more expensive.

French banks such as BNP Paribas, Crédit Agricole and Société Générale have long dominated the market for loans to oil companies secured against reserves. But these banks are now raising prices and cutting credit. For exploration and production companies, finding funds could soon get as hard as finding oil.

Reserve-based lending is predominantly a dollar-based business and already quite conservative. Loans, which can run into the billions of dollars, typically are made over three to seven years, shorter than for normal project-finance loans. Banks usually lend assuming long-term oil prices at $65 a barrel, well below current $100 prices.

But European banks have been starved of dollar funding since the summer, forcing them to retreat. The cost of reserve-based loans is now at about four to 4.5 percentage points over the London interbank offered rate, or Libor, compared with 2.5 to three points at the start of 2011, says the head of energy lending at one major French bank.

For companies that previously enjoyed low borrowing costs, that will come as a shock; the chief financial officer of one major exploration and production company says that next year he will need to refinance $2 billion of 2007 loans priced at less than one percentage point over Libor.

Banks from Japan and Australia have been stepping into the gap, some people in the industry say. But longer term their activity also could be hampered by Basel III rules, which force banks to set aside more capital for reserve-based lending.

Ilargi: None of this need be a surprise to longtime TAE readers: this is the credit crunch we've been talking about for years. And about which we've always said that it doesn't matter what central banks do; they can't prevent the crunch from happening. The credit must vanish, because its flipside is too much debt to service.

The story of Credit Agricole is symbolic of the banking sector everywhere. Banks are shedding assets, not because they want to, but rather because they have to. The reason they have to is they are over-leveraged or need to raise capital for numerous reasons including new Basel requirements.

The unfortunate irony is banks may be shedding profitable organizations simply because there is still a bid for the assets.

Credit Crunch MathIn a credit crunch, banks, hedge funds, mutual funds, and other organizations sell what that can, not what they want to. In essence, distressed sellers weaken themselves by shedding profit centers to retain assets for which there is no bid.

Ilargi: So France tries to dictate, along with Germany, the conditions under which all of Europe must operate going forward. Now, you can try and pull that off if you’re big and healthy. But you can't if you're just big and bloated. Not at all unlike what happens to the US on the world scene.

Already, people like Sarkozy are appealing to their people to "buy French". No matter that any such idea contradicts the entire European project. But the more its banks are under threat, the more France will follow this line; it has little choice. The same goes for many, if not all, other EU countries.

France even made a foolhardy attempt to claim that Britain should be downgraded ahead of itself. Pot, kettle: I'd say don't worry, you’ll all get your turn soon enough.

Thing is, the more this progresses, the less other EU nations are inclined to listen to France. Europe is still a gathering of highly divergent cultures trying to move together, something that works far better in times of plenty than it does in times of less than that.

If it were solely up to France, we would see a much larger EFSF, and an ECB that purchases a far bigger share of sovereign bonds; France deems it in its own interest to spread the risk around the whole Eurozone. Germany wants no part of this, because it realizes that all that spreading will eventually end up at the doorsteps of Berlin.

The German Bundesbank doesn't like the idea of "stealth-funding" the IMF either, for similar reasons. Der Spiegel:

The shock waves from last week's European Union summit in Brussels were difficult to ignore, with Great Britain emerging as isolated and the rest of the bloc promising to take steps toward fiscal union.

A closer look at the fine print, however, revealed that the 27 heads of state and government really only emerged from the summit with one concrete pledge aimed at dampening the most immediate effects of the debt crisis currently battering Europe. They vowed to loan up to €200 billion ($260 billion) to the International Monetary Fund so that the IMF could step up its aid to European countries in need.

Now, though, with Germany's central bank showing increasing doubts about the fund and others demonstrating an unwillingness to participate, even that measure may now be in doubt. Bundesbank head Jens Weidmann has insisted that before Germany sends its €45 billion share to the IMF, it needs assurances that other fund members outside of Europe are also willing to help out.

Russia indicated its willingness to play along on Thursday. There are indications, however, that the United States will not help out. According to Bloomberg, Federal Reserve Chairman Ben Bernanke told Senate Republicans on Wednesday that the Fed would not devote more money to the IMF.

US President Barack Obama has also said that the IMF has sufficient resources. Canada too has shown no interest in the IMF plan. And Japan has insisted that Europe do more on its own.

Increasingly UnrealisticBut there are problems in Europe too. British Prime Minister David Cameron on Wednesday made it clear that his country would only contribute €10 billion, far lower than the €30 billion EU leaders had expected, according to the Financial Times.

The Czech Republic, for its part, has said it will chip in its share of €3.5 billion if all EU countries participate. Furthermore, it wants to take its time to thoroughly examine the plan -- making next Monday's envisioned deadline for collecting European funds look increasingly unrealistic.

The agreement on the €200 billion IMF fund is essentially an admission that the current euro bailout fund, the European Financial Security Facility (EFSF), is likely not large enough to handle Italy's -- or even Spain's -- refinancing needs should they run into trouble.

Plans are afoot to leverage the EFSF, but the fund's spending power is likely to max out at €750 billion. The current consensus, voiced most recently by European Central Bank governing council member Klaas Knot, holds however that at least €1 trillion is necessary to stabilize the euro.

IMF Managing Director Christine Lagarde on Thursday underlined the severity of the crisis in comments during a conference at the US State Department. She said that the global economy is faced with threats similar to those which triggered the Great Depression in the 1930s. "It's not a crisis that will be resolved by one group of countries taking action," she said. "It's going to hopefully be resolved by all countries, all regions, all categories of countries actually taking action."

Still, it is Germany's central bank which is causing the most consternation. Weidmann has said that, despite the Bundesbank's independence, he would like parliamentary backing for the measure. Furthermore, he is against earmarking the proposed €200 billion IMF fund solely for European use, saying it should be used to strengthen the IMF as a whole.

'Back on Course'According to a report in the Financial Times Deutschland newspaper on Friday, Weidmann has also highlighted the dangers the IMF fund poses to Germany's €211 billion share of the EFSF.

Because of the IMF's "preferred creditor status," debts to the IMF are paid back first, meaning that should a country where both the IMF and the EFSF are involved becomes insolvent, the EFSF -- and thus Germany -- stands to lose at least a portion, if not all, of its contribution. According to the paper, Weidmann warned German Finance Minister Wolfgang Schäuble of the dangers on the day of the summit last week.

Ilargi: Too many things that can potentially go wrong, and some of them will. Too many different cultures and languages. Too many different and divergent interests. That's Europe's history, and it will be its future.

Looking at the war of words surrounding Britain's decision not to comply with the December 9 treaty changes, and the subsequent war of words between France and David Cameron, one gets to wonder how much longer it will take before Sarkozy and Merkel start referring to each other as frogs and krauts, respectively.

Still, the first real cracks in the EU will likely start to show up in the periphery. Like Hungary, an EU member, though with its own currency. Boris Groendahl and Edith Balazs report some interesting developments for Bloomberg:

When Hungary’s former central bank governor was buying a house two months before Lehman Brothers Holdings Inc. collapsed and the country sought an emergency bailout, he received an offer he couldn’t refuse.

Peter Akos Bod, now an economics professor at Corvinus University in Budapest, was given a choice of mortgages by his bank. The 60 year-old could select a loan in Hungary’s currency, the forint, at 13 percent interest, or one in Swiss francs at less than 6 percent. After crunching the numbers on a spreadsheet, he picked the cheaper franc loan. "It was rational," he said of his 2008 decision in an interview in the Hungarian capital. "I put it into a model."

Three years later, Bod and about one million compatriots who took mortgages in francs are faced with a debt pile that has swelled to 4.9 trillion forint ($22 billion). The currency’s 40 percent slump against the franc has raised repayment costs, pushing mortgage arrears to a two-decade high and prompting Prime Minister Viktor Orban’s government to brand the loans "debt slavery."

To help homeowners, Orban imposed currency losses on banks including Erste Group Bank AG and Raiffeisen Bank International AG (RBI) that may total 900 million euros ($1.2 billion), according to Cristina Marzea, an analyst at Barclays Capital. Faced with the risk Orban would impose further measures, lenders have offered to accept $2.2 billion of additional losses if the government promised to take no further action. If it doesn’t, banks are threatening they may withdraw from the country.

'Too Risky'"Against the backdrop of a potential western European financial crisis, this raises the risk that western lenders will just pull out of Hungary because it’s just too risky, which would be disastrous," Neil Shearing, senior emerging markets analyst at Capital Economics Ltd. in London, said in an interview. "Hungarian banks are incredibly dependent on their western European parents for short-term credit lines. At the very least it means credit is going to remain very tight."

Six of Hungary’s seven biggest banks have foreign parents, including Italy’s Intesa Sanpaolo SpA and UniCredit SpA (UCG) and Germany’s BayernLB. Only OTP Bank Nyrt., the country’s largest lender, is still domestically owned.

'Free of Debt'Almost 18 months after Orban was elected in April 2010, he passed a law allowing Hungarians to repay mortgages denominated in foreign currencies at discount of about 25 percent to today’s exchange rate. As long as a client applies before Dec. 31 and repays the entire loan before Feb. 28, the banks have to make up the difference.

"I paid it back last week," Bod said. "I’m free of debt slavery," said the former industry minister. The plan "is easy to explain from a political viewpoint. It’s cheap for the government, expensive for the banks, good for voters."

Ilargi: Hungary, in effect, makes the banks pay; good for voters. It's interesting to see how little attention this has gotten in the press. Predictably, the EU and IMF are now a-huffin' and a-puffin' in Budapest, as Gordon Fairclough describes in the Wall Street Journal:

European Union and International Monetary Fund officials broke off preliminary talks with Hungary over new financial backing because of fears the government is trying to limit central bank independence and lock in fiscal policies before any loan agreement can be negotiated, people familiar with the situation said.

Heavily indebted Hungary—under threat from rising borrowing costs and a sharply depreciating currency as global markets shudder—said last month it would seek cooperation with the IMF and EU for a "safety net" that would reassure investors about the country's stability and credit-worthiness.

EU monetary-affairs spokesman Amadeu Altafaj-Tardio said Friday the EU, along with the IMF, "decided to interrupt the preparatory mission" in Hungary because of concern about "the intention of the Hungarian authorities to push forward with the adoption of laws that can potentially undermine the independence of the central bank." [..]

Ilargi: But Hungary for now remains defiant:

In their public statements, Hungarian Prime Minister Viktor Orban and his aides have stressed they want a precautionary agreement with the IMF and EU. Because they don't intend to draw on any credit line, they have said, they expect the strings attached to the money to be limited.

On Friday morning, Mr. Orban said in a radio interview that once formal talks begin, "the government doesn't wish to discuss its economic policies with the IMF." He said the talks were, in effect, "Hungary negotiating with its own bank," since it is a member of the IMF.

Ilargi: And has a somewhat different view of its domestic financial situation:

In an interview Friday, Zoltan Csefalvay, a state secretary in the Economy Ministry, expressed openness to other types of deal. "We'll see what the IMF offers," Mr. Csefalvay said. He stressed that Hungary is in much better shape than it was in 2008, when it became the first European country to be bailed out by the EU and IMF when global credit markets froze after the collapse of U.S. investment bank Lehman Brothers.

Mr. Csefalvay said Hungary's economy expanded in 2011, its budget deficit is below 3% of gross domestic product as required by the EU, and its current account—a measure of international trade and payment flows—is in surplus.

Ilargi: The press may not have much attention for Hungary's unilateral decisions that benefit its citizens at the cost of foreign banks, but you can be sure other eastern European nations do. Nations which, while they welcome any favorable aspects of EU membership, don't want to leave any doubts about their independence.

Issues such as tax harmonization, and fiscal union in general, don't necessarily rhyme with that independence. And if Sarkozy is loudly promoting "Buy French", why would these other countries not do the same? In the process loosening the ties between nations, not strengthening them.

And the people who live in these nations, while appreciative of a government that seems to stand up for them against big banks and larger nations, will still be opportunistic. We’re seeing the first signs of what might be called a run-up to a bank run in Greece and Latvia. Citizens in other countries will follow suit. Jesse Westbrook and Saijel Kishan for Bloomberg:

Michael Platt, founder of the $30 billion hedge fund BlueCrest Capital Management LLP, said most of the banks in Europe are insolvent and the situation will worsen in 2012 as the region’s debt crisis accelerates.

Kyle Bass, the Dallas-based hedge-fund manager who said in 2009 there would be sovereign defaults within three years, said Greek, Portuguese and Spanish depositors will withdraw money from banks in the coming months. [..]

'Destabilizing Latvia'Latvians pulled about $54 million from local Swedbank AB automatic teller machines on Dec. 11 and 12 on speculation customers wouldn’t be able to access their funds. "The rumors were knowingly distributed with the goal of destabilizing the situation in Latvia," Prime Minister Valdis Dombrovskis said, according to the Leta newswire.

An unprecedented exodus of capital from Greece – peaking in a record number of withdrawals from banks in recent months – has exacerbated the liquidity crisis now wracking the recession-hit country.

The latest figures released by the Bank of Greece reveal that in September and October alone investors pulled €12.3bn (£10.3bn) from domestic banks, spurred by fears of political uncertainty and economic collapse.

Overall, outflows have reached a record 25% since September 2009 – when household and corporate deposits stood at a peak of €237.5bn, the data showed.

Theodore Pelagidis, an economics professor at the University of Piraeus, said: "This is part of the death spiral of the recession as a result of austerity measures. People realise that contagion has come to banks and they are very afraid of losing their deposits. On average around €4bn-€5bn in capital flees the banking system every month."

Ilargi: 2012 will be a year in which we'll see sovereign defaults, bank defaults, bank runs, banks preying on each other and each other's depositors, the end of the EU and Eurozone as we know them, and more, increasingly desperate and violent, street protests than we have to date been capable of imagining. All simply a culmination of developments long in the pipeline.

And the biggest and most severe credit crunch in human history will have devastating consequences that will be felt for years to come. At Marketwatch, Matthew Lynn allows a peek into his upcoming book:

In retrospect, it wasn’t hard to see that the markets were becoming dangerously unstable. Germany had just adopted a new monetary system, and Europe was being flooded with cheap German money. Greece had signed up to a monetary union with Italy and France but was struggling to hold it together.

Financial markets had been deregulated. New technologies were transforming production and communications, allowing money to move across borders at lightening speed. And a massive new industrial power was flooding the world with cheap manufactured goods, blowing apart old industries. When it all fell apart in an almighty crash, it was only to be expected.

A prophesy for London, New York or Berlin in 2012? Not exactly. It is a description of Vienna in 1873. In that year, in one of the great crashes of all time, the Austrian markets triggered collapses across Europe, swiftly followed by an equally spectacular collapse in New York.

It was the start of what economic historians call the Long Depression, a prolonged period of volatility, unemployment and slumps that lasted an epic 23 years, only coming to an end in 1896.

I have been researching that episode for my new e-book "The Long Depression: The Slump of 2008 to 2031." The parallels with our own time are fascinating. German unification, and the adoption of the gold standard, had led to a boom in that country, and cheap German money had flooded Europe.

Greece had just joined the Latin Currency Union, an ill-fated attempt to merge currencies across Europe. Banking had been deregulated, which was partly why so much German money was invested on the Vienna bourse. The telegraph created instant communications, allowing the European crash to spread to New York.

The U.S. was industrializing, transforming the global economy as much as China has transformed the present era’s economy in the past decade.

All those factors came together to create an almighty bubble, followed by an even worse crash. The slump that followed — although it is hard to measure these things precisely — lasted more than two decades. If the slump following the crash of 2008 is anything like that one, then this one is going to last until 2031.

Ilargi: The IMF has a message eerily similar to Matthew Lynn's, if you listen well, as Larry Elliott, Heather Stewart and Nicholas Watt write for the Guardian. Just that where Lynn refers to the 1870's, Christine Lagarde sticks with the 1930's.

The world risks sliding into a 1930s-style slump unless countries settle their differences and work together to tackle Europe's deepening debt crisis, the head of the International Monetary Fund has warned.

On a day that saw an escalation in the tit-for-tat trade battle between China and the United States and a deepening of the diplomatic rift between Britain and France, Christine Lagarde issued her strongest warning yet about the health of the global economy and said if the international community failed to co-operate the risk was of "retraction, rising protectionism, isolation".

She added: "This is exactly the description of what happened in the 1930s, and what followed is not something we are looking forward to."

The IMF managing director's call came amid growing concern that 2012 will see Europe slide into a double-dip recession, with knock-on effects for the rest of the global economy. "The world economic outlook at the moment is not particularly rosy. It is quite gloomy," she said. [..]

Speaking at the State Department in Washington, Lagarde said: "There is no economy in the world, whether low-income countries, emerging markets, middle-income countries or super-advanced economies, that will be immune to the crisis that we see not only unfolding but escalating.

"It is not a crisis that will be resolved by one group of countries taking action. It is going to be hopefully resolved by all countries, all regions, all categories of countries actually taking some action."

Ilargi: Yeah, unity. Sure. Later in the same article, reality bites back:

As Lagarde called for unity, there were strong attacks on Britain from both the French finance minister, Francois Baroin, and the governor of the French central bank, Christian Noyer, in what appeared to be a concerted attempt by Paris to escalate a war of words with London in the wake of Britain's decision to veto a new EU treaty.

Noyer, speaking amid financial market speculation that the Standard & Poor's ratings agency was about to strip France of its coveted AAA rating, said Britain's credit rating should be downgraded first.

He said a downgrade for France (which would drive up the interest Paris pays to borrow, and make loans in the wider economy more expensive) "doesn't strike me as justified based on economic fundamentals.

"If it is, they should start by downgrading the UK, which has a bigger deficit, as much debt, more inflation, weaker growth, and where bank lending is collapsing."

In strikingly similar language, Baroin poked fun at David Cameron in a speech to the French parliament. "Great Britain is in a very difficult economic situation: a deficit close to the level of Greece, debt equivalent to our own, much higher inflation prospects, and growth forecasts well under the eurozone average. It is an audacious choice the UK government has made." [..]

John Bryson, the US commerce secretary, signalled that Washington would retaliate against Beijing's decision to put tariffs on high-performance US cars imported into China. "The United States has reached a point where we cannot quietly accept China ignoring many of the trade rules. China still substantially subsidises its own companies, discriminates against foreign companies, and has poor intellectual property protections," he said.

Ilargi: Of course, all of the above takes place against the backdrop of a global financial and banking system that seeks to preserve and grow its riches and political and military dominance. In order to preserve its privileges, the financial system will increasingly attempt to take away people's sovereign and democratic rights along with their wealth. And that in turn guarantees much more violent protests going forward, since increasing inequality will become increasingly and glaringly obvious.

In retrospect, it wasn’t hard to see that the markets were becoming dangerously unstable. Germany had just adopted a new monetary system, and Europe was being flooded with cheap German money. Greece had signed up to a monetary union with Italy and France but was struggling to hold it together.

Financial markets had been deregulated. New technologies were transforming production and communications, allowing money to move across borders at lightening speed. And a massive new industrial power was flooding the world with cheap manufactured goods, blowing apart old industries. When it all fell apart in an almighty crash, it was only to be expected.

A prophesy for London, New York or Berlin in 2012? Not exactly. It is a description of Vienna in 1873. In that year, in one of the great crashes of all time, the Austrian markets triggered collapses across Europe, swiftly followed by an equally spectacular collapse in New York.

It was the start of what economic historians call the Long Depression, a prolonged period of volatility, unemployment and slumps that lasted an epic 23 years, only coming to an end in 1896.

I have been researching that episode for my new e-book "The Long Depression: The Slump of 2008 to 2031." The parallels with our own time are fascinating. German unification, and the adoption of the gold standard, had led to a boom in that country, and cheap German money had flooded Europe.

Greece had just joined the Latin Currency Union, an ill-fated attempt to merge currencies across Europe. Banking had been deregulated, which was partly why so much German money was invested on the Vienna bourse. The telegraph created instant communications, allowing the European crash to spread to New York.

The U.S. was industrializing, transforming the global economy as much as China has transformed the present era’s economy in the past decade.

All those factors came together to create an almighty bubble, followed by an even worse crash. The slump that followed — although it is hard to measure these things precisely — lasted more than two decades. If the slump following the crash of 2008 is anything like that one, then this one is going to last until 2031.

True, historical parallels are never precise. We won’t replay the Long Depression of 1873 to 1896 exactly, nor will this slump necessarily last as long. It is, however, a far more instructive episode than the Great Depression of the 1930s. And there are five key lessons we should learn from it.

First, depressions can last a very long time, and when their origins are in a debt bubble they should be measured in decades not years. For a century or more, depressions have been relatively short, sharp episodes. They are like having a tooth pulled, rather than a chronic sickness — painful, but over quite quickly. But it doesn’t have to be that way.

In the U.K., for example, this is already the longest recession since records began — in the sense that output is still below its 2008 peak. It is more enduring than the depression of the 1930s. That is true of many other countries, as well. If, as seems likely, Europe, and perhaps the U.S., slips back into recession in 2012, it will be clear to everyone we are witnessing something far longer than the conventional economic textbooks allow for.

Second, this depression is structural. The Long Depression of the 19th century had its roots in financial speculation, technological change, and the arrival of a massive new player in the global economy. Our current depression likewise has its roots in three huge crises coming together at the same time. We have a debt bubble that had been building up over three decade and which burst spectacularly in 2008.

The dollar is in long-term decline as a reserve currency, and as the anchor for the global monetary system, but there is still not much sign of what will replace it. And in the euro, the biggest single economic bloc has created the most dysfunctional monetary system in human history, threatening financial collapses on an unprecedented scale.

Think of it as the world economy’s suffering a heart attack, then a stroke, then getting picked up by an ambulance that crashes on the way to the hospital — it is hardly surprising the patient isn’t in good shape.

Three, it’s uneven. The Long Depression of the 19th century was a sustained period of lower growth compared with what came before and what came afterward. Germany, for example, grew 4.3% annually between 1850 and 1873 and then at 4.1% between 1896 and 1913. But in the Long Depression years, it only managed a growth rate of just over 2% a year.

It was similar in other countries. The markets remained volatile, with repeated booms and busts, regularly collapsing back into recession. They did grow occasionally, just as Japan has sometimes grown in what is now its second decade of slump. But the growth is never sustained.

Four, good things are still happening. It isn’t all doom and gloom. In the Long Depression, some countries were largely unscathed. New technologies and industries were being created.

The telephone was invented, and the foundations of new industries based on the petrol engine and electricity were put into place. The people who got it right still made huge fortunes, and the workers in the right industries prospered. Overall, however, times were hard. And you had to position yourself carefully.

Five, it won’t be fixed easily. The parallel with the 1930s is dangerous, because it has convinced bankers and policy makers that if you can just pump up demand, everything will be OK. It won’t.

Sure, demand is important — there is no point in letting it collapse. But this won’t be over until all three structural problems get fixed. Debt needs to be paid down to manageable levels, a new reserve currency needs to be created, and the euro needs to be put out of its misery. None of these are simple tasks, and none will be done quickly.

The global economy will eventually get back to normal growth. But the truth is, it is going to be a long, hard haul — and a lot of work needs to be done it get back on track.

Michael Platt, founder of the $30 billion hedge fund BlueCrest Capital Management LLP, said most of the banks in Europe are insolvent and the situation will worsen in 2012 as the region’s debt crisis accelerates.

Kyle Bass, the Dallas-based hedge-fund manager who said in 2009 there would be sovereign defaults within three years, said Greek, Portuguese and Spanish depositors will withdraw money from banks in the coming months.

"I do not take any exposure to banks at all if I can avoid it," Platt, 43, said today in an interview on Bloomberg Television’s "Inside Track With Erik Schatzker." If European lenders had to mark their books to markets every day in the same way hedge funds do, most would be proven "insolvent," he said.

The European Banking Authority demanded this month that the region’s banks raise 114.7 billion euros ($149 billion) in fresh capital to withstand writedowns on Greek bonds and other sovereign debt. Attracting additional funds may be challenging as lenders are suffering from depressed share prices and lack of confidence from investors.

Platt said he’s disappointed in the measures that came out of last week’s meeting of European leaders, saying they were too focused on budget cuts. Austerity will ultimately lead to slower growth in Europe, making the region’s debt woes even worse, he said. A solution will come when the European Central Bank pumps significant amounts of money into economies, something it lacks a mandate to do, Platt said.

Completely UnstableThe situation in Europe is "completely unstable" because economies are shrinking at the same time as governments are paying higher yields to service debt, Platt said. The region is heading into a recession that "can turn all the countries of Europe, given enough time, into Greece," he said.

European Central Bank President Mario Draghi said today that the euro area may not be able to escape a recession triggered by governments’ austerity measures. BlackRock Inc., the world’s biggest asset manager, said European nations including France and Germany are headed for a recession as the crisis prompts companies to cut spending and stop hiring.

"We now believe that we’re in for a full-fledged recession, including one in France and Germany, that could cut GDP by 1 percent to 2 percent," according to a note published today by New York-based BlackRock’s investment institute. "Short-term austerity measures could worsen the recession, defeating their very purpose of closing budget gaps."

'Failed Attempt'The Dec. 9 European Union summit was the 15th in 23 months as leaders attempt to contain a surge in bond yields that threatens the survival of the common currency. Leaders agreed on a blueprint for a closer fiscal union, added 200 billion euros to their war chest and sped the start of a 500 billion-euro rescue fund to next year.

"As European leaders press forward with failed attempt after failed attempt to suppress borrowing costs, control spending, reduce deficits and prop up what the markets have already told us is a broken monetary system, the data tells us that the citizens of the most troubled and profligate nations are losing confidence in the euro dream," Bass, who runs Hayman Capital Management LP, said yesterday in an investor letter, a copy of which was obtained by Bloomberg News.

Bass, who made $500 million with bets on a U.S. subprime- mortgage market collapse, said trust and confidence in the European economy has been lost and sovereign defaults are "imminent." He declined to comment beyond the letter when contacted by Bloomberg News today.

'Destabilizing Latvia'Latvians pulled about $54 million from local Swedbank AB automatic teller machines on Dec. 11 and 12 on speculation customers wouldn’t be able to access their funds. "The rumors were knowingly distributed with the goal of destabilizing the situation in Latvia," Prime Minister Valdis Dombrovskis said, according to the Leta newswire.

In Greece, business and household bank deposits have slumped 26 percent in the past two years to 176 billion euros, and fell in October by the most since the nation joined the euro, according to the Bank of Greece. There were 2.24 trillion euros of overnight deposits with euro-region financial institutions at the end of September, down from 2.26 trillion in July, according to data compiled by Bloomberg.

"Just as Latvians ran to the ATMs this weekend, so will depositors all over peripheral Europe in the months ahead," Bass, whose hedge fund oversees $948 million, said in the letter. "Deposits are now declining at an accelerated pace. What’s surprising is that it hasn’t happened much sooner."

Buying TreasuriesS&P placed the ratings of 15 euro nations on review for possible downgrade on Dec. 5, including the region’s six AAA rated countries. Moody’s said Dec. 12 it will review the ratings of all EU countries in the first quarter of 2012 because the summit didn’t produce "decisive policy measures."

BlueCrest is pouring money into U.S. Treasuries and short- term German debt because of concerns about market volatility and counterparty risk, Platt said. BlueCrest Capital International, the fund he personally manages in Geneva, has risen about 5.6 percent this year through November.

Platt’s BlueCrest International fund hasn’t had a down year since he started the company in 2000 after leaving a proprietary trading desk at New York-based JPMorgan Chase & Co. (JPM) The fund, which has produced an average annual return of about 13.8 percent, mainly bets on movements for currencies and interest rates. The firm’s BlueTrend Fund, which uses computers to try to spot profitable trades in futures contracts tied to currencies and commodities, is down about 2.7 percent this year.

BlueCrest has avoided buying assets put up for sale by banks that are trying to deleverage because of concerns about liquidity, Platt said. The financial meltdown of 2008 showed how quickly holdings can become hard to sell at the same time hedge fund investors are forcing sales by trying to pull their money out of the industry, he said. "I would not touch them with a barge pole," he said. "The major opportunities will come post-blowout."

Squeezed by rising living costs, a record number of Americans - nearly 1 in 2 - have fallen into poverty or are scraping by on earnings that classify them as low income.

The latest census data depict a middle class that's shrinking as unemployment stays high and the government's safety net frays. The new numbers follow years of stagnating wages for the middle class that have hurt millions of workers and families.

"Safety net programs such as food stamps and tax credits kept poverty from rising even higher in 2010, but for many low-income families with work-related and medical expenses, they are considered too `rich' to qualify," said Sheldon Danziger, a University of Michigan public policy professor who specializes in poverty.

"The reality is that prospects for the poor and the near poor are dismal," he said. "If Congress and the states make further cuts, we can expect the number of poor and low-income families to rise for the next several years."

Congressional Republicans and Democrats are sparring over legislation that would renew a Social Security payroll tax cut, part of a year-end political showdown over economic priorities that could also trim unemployment benefits, freeze federal pay and reduce entitlement spending.

Robert Rector, a senior research fellow at the conservative Heritage Foundation, questioned whether some people classified as poor or low-income actually suffer material hardship. He said that while safety-net programs have helped many Americans, they have gone too far, citing poor people who live in decent-size homes, drive cars and own wide-screen TVs.

"There's no doubt the recession has thrown a lot of people out of work and incomes have fallen," Rector said. "As we come out of recession, it will be important that these programs promote self-sufficiency rather than dependence and encourage people to look for work."

Mayors in 29 cities say more than 1 in 4 people needing emergency food assistance did not receive it. Many middle-class Americans are dropping below the low-income threshold - roughly $45,000 for a family of four - because of pay cuts, a forced reduction of work hours or a spouse losing a job. Housing and child-care costs are consuming up to half of a family's income.

States in the South and West had the highest shares of low-income families, including Arizona, New Mexico and South Carolina, which have scaled back or eliminated aid programs for the needy. By raw numbers, such families were most numerous in California and Texas, each with more than 1 million.

The struggling Americans include Zenobia Bechtol, 18, in Austin, Texas, who earns minimum wage as a part-time pizza delivery driver. Bechtol and her 7-month-old baby were recently evicted from their bedbug-infested apartment after her boyfriend, an electrician, lost his job in the sluggish economy.

After an 18-month job search, Bechtol's boyfriend now works as a waiter and the family of three is temporarily living with her mother. "We're paying my mom $200 a month for rent, and after diapers and formula and gas for work, we barely have enough money to spend," said Bechtol, a high school graduate who wants to go to college. "If it weren't for food stamps and other government money for families who need help, we wouldn't have been able to survive."

About 97.3 million Americans fall into a low-income category, commonly defined as those earning between 100 and 199 percent of the poverty level, based on a new supplemental measure by the Census Bureau that is designed to provide a fuller picture of poverty. Together with the 49.1 million who fall below the poverty line and are counted as poor, they number 146.4 million, or 48 percent of the U.S. population. That's up by 4 million from 2009, the earliest numbers for the newly developed poverty measure.

The new measure of poverty takes into account medical, commuting and other living costs. Doing that helped push the number of people below 200 percent of the poverty level up from 104 million, or 1 in 3 Americans, that was officially reported in September.

Broken down by age, children were most likely to be poor or low-income - about 57 percent - followed by seniors over 65. By race and ethnicity, Hispanics topped the list at 73 percent, followed by blacks, Asians and non-Hispanic whites.

Even by traditional measures, many working families are hurting. Following the recession that began in late 2007, the share of working families who are low income has risen for three straight years to 31.2 percent, or 10.2 million. That proportion is the highest in at least a decade, up from 27 percent in 2002, according to a new analysis by the Working Poor Families Project and the Population Reference Bureau, a nonprofit research group based in Washington.

Among low-income families, about one-third were considered poor while the remainder - 6.9 million - earned income just above the poverty line. Many states phase out eligibility for food stamps, Medicaid, tax credit and other government aid programs for low-income Americans as they approach 200 percent of the poverty level.

The majority of low-income families - 62 percent - spent more than one-third of their earnings on housing, surpassing a common guideline for what is considered affordable. By some census surveys, child-care costs consume close to another one-fifth.

Paychecks for low-income families are shrinking. The inflation-adjusted average earnings for the bottom 20 percent of families have fallen from $16,788 in 1979 to just under $15,000, and earnings for the next 20 percent have remained flat at $37,000. In contrast, higher-income brackets had significant wage growth since 1979, with earnings for the top 5 percent of families climbing 64 percent to more than $313,000.

A survey of 29 cities conducted by the U.S. Conference of Mayors being released Thursday points to a gloomy outlook for those on the lower end of the income scale.

Many mayors cited the challenges of meeting increased demands for food assistance, expressing particular concern about possible cuts to federal programs such as food stamps and WIC, which assists low-income pregnant women and mothers. Unemployment led the list of causes of hunger in cities, followed by poverty, low wages and high housing costs.

Across the 29 cities, about 27 percent of people needing emergency food aid did not receive it. Kansas City, Mo., Nashville, Tenn., Sacramento, Calif., and Trenton, N.J., were among the cities that pointed to increases in the cost of food and declining food donations, while Mayor Michael McGinn in Seattle cited an unexpected spike in food requests from immigrants and refugees, particularly from Somalia, Burma and Bhutan.

Among those requesting emergency food assistance, 51 percent were in families, 26 percent were employed, 19 percent were elderly and 11 percent were homeless. "People who never thought they would need food are in need of help," said Mayor Sly James of Kansas City, Mo., who co-chairs a mayors' task force on hunger and homelessness.

China's credit bubble has finally popped. The property market is swinging wildly from boom to bust, the cautionary exhibit of a BRIC's dream that is at last coming down to earth with a thud.

It is hard to obtain good data in China, but something is wrong when the country's Homelink property website can report that new home prices in Beijing fell 35pc in November from the month before. If this is remotely true, the calibrated soft-landing intended by Chinese authorities has gone badly wrong and risks spinning out of control.

The growth of the M2 money supply slumped to 12.7pc in November, the lowest in 10 years. New lending fell 5pc on a month-to-month basis. The central bank has begun to reverse its tightening policy as inflation subsides, cutting the reserve requirement for lenders for the first time since 2008 to ease liquidity strains.

The question is whether the People's Bank can do any better than the US Federal Reserve or Bank of Japan at deflating a credit bubble. Chinese stocks are flashing warning signs. The Shanghai index has fallen 30pc since May. It is off 60pc from its peak in 2008, as much in real terms as Wall Street from 1929 to 1933.

"Investors are massively underestimating the risk of a hard-landing in China, and indeed other BRICS (Brazil, Russia, India, China)... a 'Bloody Ridiculous Investment Concept' in my view," said Albert Edwards at Societe Generale.

"The BRICs are falling like bricks and the crises are home-blown, caused by their own boom-bust credit cycles. Industrial production is already falling in India, and Brazil will soon follow."

"There is so much spare capacity that they will start dumping goods, risking a deflation shock for the rest of the world. It no surpise that China has just imposed tariffs on imports of GM cars. I think it is highly likely that China will devalue the yuan next year, risking a trade war," he said.

China's $3.2 trillion foreign reserves have been falling for three months despite the trade surplus. Hot money is flowing out of the country. "One-way capital inflow or one-way bets on a yuan rise have become history. Our foreign reserves are basically falling every day," said Li Yang, a former central bank rate-setter.

The reserve loss acts as a form of monetary tightening, exactly the opposite of the effect during the boom. The reserves cannot be tapped to prop up China's internal banking system. To do so would mean repatriating the money – now in US Treasuries and European bonds – pushing up the yuan at the worst moment.

The economy is massively out of kilter. Consumption has fallen from 48pc to 36pc of GDP since the late 1990s. Investment has risen to 50pc of GDP. This is off the charts, even by the standards of Japan, Korea or Tawian during their catch-up spurts. Nothing like it has been seen before in modern times.

Fitch Ratings said China is hooked on credit, but deriving ever less punch from each dose. An extra dollar in loans increased GDP by $0.77 in 2007. It is $0.44 in 2011. "The reality is that China's economy today requires significantly more financing to achieve the same level of growth as in the past," said China analyst Charlene Chu.

Ms Chu warned that there had been a "massive build-up in leverage" and fears a "fundamental, structural erosion" in the banking system that differs from past downturns. "For the first time, a large number of Chinese banks are beginning to face cash pressures. The forthcoming wave of asset quality issues has the potential to become uglier than in previous episodes".

Investors had thought China was immune to a property crash because mortgage finance is just 19pc of GDP. Wealthy Chinese often buy two, three or more flats with cash to park money because they cannot invest overseas and bank deposit rates have been minus 3pc in real terms this year.

But with price to income levels reaching nosebleed levels of 18 in East coast cities, it is clear that appartments – often left empty – have themselves become a momentum trade. Professor Patrick Chovanec from Beijing's Tsinghua School of Economics said China's property downturn began in earnest in August when construction firms reported that unsold inventories had reached $50bn. It has now turned into "a spiral of downward expectations".

A fire-sale is under way in coastal cities, with Shanghai developers slashing prices 25pc in November – much to the fury of earlier buyers, who expect refunds. This is spreading. Property sales have fallen 70pc in the inland city of Changsa. Prices have reportedly dropped 70pc in the "ghost city" of Ordos in Inner Mongolia. China Real Estate Index reports that prices dropped by just 0.3pc in the top 100 cities last month, but this looks like a lagging indicator.

Meanwhile, the slowdown is creeping into core industries. Steel output has buckled. Beijing was able to counter the global crunch in 2008-2009 by unleashing credit, acting as a shock absorber for the whole world. It is doubtful that Beijing can pull off this trick a second time.

"If investors go for growth at all costs again they are likely to find that it works even less than before and inflation returns quickly with a vengeance," said Diana Choyleva from Lombard Streeet Research.

The International Monetary Fund's Zhu Min says loans have doubled to almost 200pc of GDP over the last five years, including off-books lending. This is roughly twice the intensity of credit growth in the five years preceeding Japan's Nikkei bubble in the late 1980s or the US housing bubble from 2002 to 2007. Each of these booms saw loan growth of near 50 percentage points of GDP.

The IMF said in November that lenders face a "steady build-up of financial sector vulnerabilities", warning if hit with multiple shocks, "the banking system could be severely impacted".

Mark Williams from Capital Economics said the great hope was that China would use is credit spree after 2008 to buy time, switching from chronic over-investment to consumer-led growth.

"It hasn't work out as planned. The next few weeks are likely to reveal how little progress has been made. China may ride out the storm over the next few months, but the dangers of over-capacity and bad debt will only intensify".

In truth, China faces an epic deleveraging hangover, like the rest of us.

The German government has begun preparations for a possible state bail-out of Commerzbank if it fails to present a convincing plan by January 20 to fill a €5.3bn capital gap identified by regulators.

German chancellor Angela Merkel’s cabinet on Wednesday agreed a bill to reinstate a state-backed bank rescue fund next year, a move that could pave the way for state aid to Commerzbank, Germany’s second-largest bank by assets.

Among the measures in the bill are provisions for BaFin, Germany’s financial regulator, to force banks to accept state help if it thinks a bank’s plans to raise capital are insufficient.

Officials in Berlin are privately sceptical that Commerzbank can keep to its pledge to shore up its capital without using more state funds. The bank received more than €18bn of aid during the financial crisis and remains 25 per cent state-owned.

"Under the old regime, BaFin could only step in when the existence of the bank was in danger," said one government official. "Now it can act when it sees a danger for the entire financial system and the confidence it rests on."

Commerzbank was one of the biggest losers when the European Banking Authority this month published updated results of stress tests of European banks along with orders to plug any capital needs. Commerzbank, which owns €13bn of the peripheral eurozone debt at the heart of the continent’s fiscal crisis, saw its capital gap balloon from €2.9bn to €5.3bn because of the debt exposure.

Berlin’s plans to reintroduce the state rescue fund also include a new provision for banks to shunt portfolios of sovereign bonds into a state-backed "bad bank". This could help Commerzbank offload Eurohypo, its struggling property subsidiary that is weighed down with sovereign debt.

Chintan Joshi, analyst at Nomura, said that transferring bonds to the government at above market value would be a "straight bail-out" and therefore unlikely. "We do believe that a bail-out will come with pain attached ... we do not think Germany can provide a lucrative bail-out to Commerzbank in the current climate," he wrote in a note.

Commerzbank wants to try to meet EBA demands by cutting risk-weighted assets as well as through other measures to manage capital. On Wednesday it completed a tender to buy back €1.27bn of junior debt, providing a €700m boost to its core tier one capital. Its shares rose 4 per cent to €1.21. Commerzbank is also slashing costs, with insiders saying some Christmas events for staff had been cancelled.

The EBA identified six German banks as needing a combined €13.1bn to meet a core tier one capital ratio of 9 per cent by June 30. Berlin believes most of the banks – including Deutsche Bank, Helaba and NordLB – will be able to find fresh capital from shareholders, retained earnings or shrinking their balance sheets. But officials think Commerzbank will be hard-pushed to present a convincing plan by the January deadline.

BaFin will be able to reject any plan it deems insufficient and ask a bank to consider state aid. If BaFin remains unconvinced by the revised plan, it can appoint a special representative, in effect to run the bank.

The reactivated fund, intended to be up and running in late-February, will be able to disburse up to €80bn in capital – in the form of shares or so-called silent participations, a form of debt with some equity characteristics – and €400bn in credit guarantees. The fund will close to new entrants at the end of 2012.

Germany’s commercial banking association, whose members include Commerzbank and Deutsche Bank, said the resurrected rescue fund would contribute to market confidence in banks but said banks had to be able to decide themselves how to raise capital.

When Hungary’s former central bank governor was buying a house two months before Lehman Brothers Holdings Inc. collapsed and the country sought an emergency bailout, he received an offer he couldn’t refuse.

Peter Akos Bod, now an economics professor at Corvinus University in Budapest, was given a choice of mortgages by his bank. The 60 year-old could select a loan in Hungary’s currency, the forint, at 13 percent interest, or one in Swiss francs at less than 6 percent. After crunching the numbers on a spreadsheet, he picked the cheaper franc loan. "It was rational," he said of his 2008 decision in an interview in the Hungarian capital. "I put it into a model."

Three years later, Bod and about one million compatriots who took mortgages in francs are faced with a debt pile that has swelled to 4.9 trillion forint ($22 billion). The currency’s 40 percent slump against the franc has raised repayment costs, pushing mortgage arrears to a two-decade high and prompting Prime Minister Viktor Orban’s government to brand the loans "debt slavery."

To help homeowners, Orban imposed currency losses on banks including Erste Group Bank AG and Raiffeisen Bank International AG (RBI) that may total 900 million euros ($1.2 billion), according to Cristina Marzea, an analyst at Barclays Capital. Faced with the risk Orban would impose further measures, lenders have offered to accept $2.2 billion of additional losses if the government promised to take no further action. If it doesn’t, banks are threatening they may withdraw from the country.

'Too Risky'"Against the backdrop of a potential western European financial crisis, this raises the risk that western lenders will just pull out of Hungary because it’s just too risky, which would be disastrous," Neil Shearing, senior emerging markets analyst at Capital Economics Ltd. in London, said in an interview. "Hungarian banks are incredibly dependent on their western European parents for short-term credit lines. At the very least it means credit is going to remain very tight."

Six of Hungary’s seven biggest banks have foreign parents, including Italy’s Intesa Sanpaolo SpA and UniCredit SpA (UCG) and Germany’s BayernLB. Only OTP Bank Nyrt., the country’s largest lender, is still domestically owned.

'Free of Debt'Almost 18 months after Orban was elected in April 2010, he passed a law allowing Hungarians to repay mortgages denominated in foreign currencies at discount of about 25 percent to today’s exchange rate. As long as a client applies before Dec. 31 and repays the entire loan before Feb. 28, the banks have to make up the difference.

"I paid it back last week," Bod said. "I’m free of debt slavery," said the former industry minister. The plan "is easy to explain from a political viewpoint. It’s cheap for the government, expensive for the banks, good for voters."

While borrowers in Poland, Romania, Bulgaria and Croatia also took foreign currency loans, Hungary is unique because average household borrowing in overseas currencies is more than six times the region’s average, according to Barclays. In Poland, where more than half of all mortgages are franc- denominated, banks limited them to more affluent customers, and cushioned the franc’s advance against the zloty by cutting rates. Hungarian banks raised rates.

Every redeemed mortgage equates to a loss for the banks, Barclay’s Marzea said in a Nov. 17 report that banks operating in Hungary may lose 12 percent of their combined capital, or about 900 million euros, because of the early repayment plan.

'Immediate Action'Lenders responded by suing the government in the Hungarian Constitutional Court and asking the European Union in a Nov. 14 letter to take "urgent and immediate action" against Orban, adding they will need to reassess their commitments in Hungary. Erste and Raiffeisen, which signed the letter, have said they will cut lending in the country.

"Banks are having to make brutal decisions about where they deploy capital at the moment, and if policy makers make life too difficult for European banks, as in Hungary, then they will more aggressively deleverage in these markets," Tim Ash, head of emerging markets at Royal Bank of Scotland Group Plc, said in an e-mail. It’s "obviously bad for credit and growth."

Demand for franc mortgages rose from 2003, when Hungary’s government stopped subsidizing forint home loans. Foreign banks filled the gap, using their parent’s access to euros and francs to undercut OTP. (OTP) The profitability of the country’s banking industry soared, with return on equity jumping to between 20 percent and 30 percent annually from 2003 to 2007. When the government started to cut spending in 2006, Hungarians took out more loans secured on their homes to finance consumption.

Dual MonarchyBy June 30, Austrian banks had lent $42 billion to Hungarian borrowers, Italians $23 billion and Germans $21 billion, according to the Bank for International Settlements.

Orban’s bank policies have especially irked neighboring Austria, which until 1918 was Hungary’s partner in the Dual Monarchy of the Hapsburg empire and which re-engaged with the region through its banks after communism collapsed in 1989.

Austria’s central bank Governor Ewald Nowotny in October described the Hungarian law as "brutal" as well as legally unworkable and "economically nonsensical." Nowotny last month ordered the country’s lenders to limit new loans in eastern Europe to make their business "more sustainable."

When Erste (EBS) set aside an extra 450 million euros for Hungarian bad debt in the third quarter, Chief Executive Officer Andreas Treichl pointedly referred to "irrational populist measures in EU countries" and predicted that Hungary’s government would "continue to take action that will not be positive for the Hungarian banking system."

'Biggest Event Risk'Moody’s Investors Service last week said that Austrian banks’ exposure to the central and eastern European region is "the single biggest event risk for the sovereign." Austrian banks are also the biggest lenders in the broader eastern European region. Standard & Poor’s said Dec. 5 it may downgrade Austria, one of the six remaining euro area countries rated AAA, because it may have to inject capital into its banks.

Hungary’s banking association last month proposed a plan of its own that would include further losses for the banks of as much as $2.2 billion. "What we want in exchange is that the government accepts the package we submitted in its entirety and there won’t be new regulations on this issue for two years," Daniel Gyuris, deputy head of the association, said in a Dec. 5 interview.

Agreement Is 'Close'Talks on the banks’ proposals are "close" to an agreement and details may be published "within days," Mihaly Patai, head of the Bank Association said, according to Napi Gazdasag report published today.

The banks may yet be helped by Hungary’s move to tap the International Monetary Fund for as much as 20 billion euros of aid after spurning its advice last year. The EU and the European Central Bank have already criticized the debt-repayment plan and the program may form part of Hungary’s negotiations with the IMF. The IMF’s mission chief to Hungary, Christoph Rosenberg, declined to comment on policy issues relating to the country when contacted by e-mail.

"Any further attempts to unilaterally restructure foreign currency debt is off the cards," said Capital Economics’s Shearing. "I can’t see how the IMF would sanction that. Any restructuring will have to be approved by the banks and the government."

When it comes to fighting the European crisis, the Netherlands may as well be a part of Germany.

"The Dutch are often a mainstay for the Germans, and as such, play a bigger role than justified by their economy," said Sylvester Eijffinger, a professor of financial economics at Tilburg University, 69 miles south of Amsterdam. It’s good for Germany because "it never wants to be accused of going it alone," he said.

As European leaders have struggled for more than two years to tame their financial crisis, the Dutch government has sided with neighboring Germany in pushing austerity and central bank independence, underscoring differences between northern and southern Europe in seeking solutions.

In February 2010, then acting Dutch Prime Minister Jan Peter Balkenende called German Chancellor Angela Merkel to say the International Monetary Fund should help Greece solve its funding needs. The plan was opposed by French President Nicolas Sarkozy, who said it would show the European Union couldn’t solve its own crises. A month later, EU leaders went to the Washington-based IMF for aid.

"The Netherlands was much more in favor for calling in the IMF than Germany was," said Adriaan Schout, who heads the European Studies Programme at the Clingendael Institute of International Relations in The Hague. The Dutch government sought the involvement of the IMF and its strict rules to ensure Greece would live up to its end of the bargain.

Exports to GermanyThe Netherlands, the fifth-largest economy in the euro region, exported 90 billion euros ($117 billion) of goods to Germany in 2010, making up almost a quarter of total exports, compared with 32 billion euros to France, according to Dutch statistics agency CBS. Germany has the EU’s biggest economy and ranks as the world’s second-largest exporter after China.

"Trade between Germany and the Netherlands isn’t only extensive, it is enormous," Dutch Finance Minister Jan Kees de Jager said at Berlin’s Humboldt University on May 24. "It is flourishing today thanks to the internal market and the euro. If there are two EMU countries that should logically stand together, they are Germany and the Netherlands."

A breakup of the euro bloc would cut exports of Dutch products by 25 percent next year, ING Groep NV (INGA) economists Teunis Brosens and Dimitry Fleming said in a Dec. 6 note to clients. "As a trading nation with large pension funds and an international financial sector, we’re closely tied to the euro zone" and may be the country with the biggest interest in maintaining the currency, they wrote.

EU SummitMoody’s Investors Service said Dec. 12 that it will review the ratings of all European Union nations after last week’s meeting of the region’s leaders failed to produce "decisive policy measures." That followed Standard & Poor’s announcement that it may cut the ratings of 15 euro-region members because of a "reactive and insufficient" response to the crisis.

S&P’s warning of a possible rating downgrade of AAA rated Germany, France and the Netherlands comes as a "clear signal that solutions are needed," De Jager told RTL television. German Finance Minister Wolfgang Schaeuble said S&P’s warning will spur politicians to bolster efforts to resolve the crisis.

"There are not so many differences" between the Dutch and German approach to solving the debt crisis, Dutch Prime Minister Mark Rutte told reporters in Stockholm after meeting his Swedish counterpart, Fredrik Reinfeldt, on Dec. 5. "I challenge you, you will find one or two, but it is difficult."

Coal, Steel AccordThe German and Dutch ideals on Europe trace their roots to the establishment of the European Coal and Steel Community in 1951. Germany and the Netherlands, along with four other European countries, agreed to bring resources used for weapons production under common control in the first move that led to today’s EU with 27 member states.

Dutch pension funds and insurers sold French, Spanish and Italian bonds and bought debt of Germany, the Netherlands, Austria and Finland instead in the third quarter, the country’s central bank said today. The yield difference between Dutch 10- year bonds and German bunds narrowed two basis points to 31 basis points. The extra interest investors demand to hold French bonds instead of benchmark German bunds was at 118 basis points as of 1 p.m. in Frankfurt.

Budget Stance"Germany and the Netherlands are on the same line when it comes to automatic sanctions for excessive budget deficits and preventing the European Central Bank from losing its independence," said Schout, who served as an independent expert to the European Commission.

They weren’t always on the same page when it came to budget rigor. The Dutch defeated a proposed European constitution in a 2005 referendum amid public disagreements over a successful Franco-German bid to loosen deficit rules.

While the Germans and Dutch succeeded in drafting the IMF to shore up Greek state finances and bring France to pledge to semi-automatic budget sanctions, they gave in to Sarkozy’s demand to remove specific bondholder-loss provisions in the treaty for the European Stability Mechanism.

"Sarkozy came out as the winner and managed to get rid of private-sector involvement, something the Netherlands has supported," Schout said. "That’s typical for the Dutch position. They are keenly involved in the preparations, but when the match starts, it’s between Germany and France."

Leadership RoleFrench Budget Minister Valerie Pecresse said France and Germany need to play a leadership role in the euro. "Given the number of countries in the euro zone and given their different situations, it’s essential to begin with a French-German agreement," Pecresse said Dec. 7 at a press conference in Paris.

While France also is among the six founders of the European Union, a visit to Berlin usually takes preference over a trip to Paris for newly inaugurated Dutch prime ministers.

"France is culturally further removed from the Netherlands than Germany so the Dutch influence there is bigger than among the French," said Eijffinger, the Tilburg University professor who is also a member of the Monetary Experts Panel of the European Parliament.

"We're all concerned -- is the American taxpayer going to be bailing out European nations and banks?" Senator Lindsey Graham told reporters after a meeting with the Fed chairman. "He said, no, he doesn't have the intention or authority to do that," Graham said.

Bernanke met with Republican Senators a day after the Fed said risks that the debt crisis roiling European financial markets could jump the Atlantic is a major risk to the fragile U.S. recovery.

Lawmakers said Bernanke gave a presentation about the steps European authorities are taking to stem the crisis and answered questions but did not offer any clues about the path of U.S. policy. "He's very concerned," Senator Orrin Hatch said. "He did say, if they can't get their thing in order, it could affect us, a collapse over there would be detrimental to us."

Jonathan Smucker felt so strongly that something was wrong at the heart of the American system that he left the small business he runs in Rhode Island and set off for New York City to take part in the Occupy Wall Street protest.

"Like a lot of Americans, I’m pretty ticked off. It’s not that there are rich people, it’s that the people with a lot of money over the past few decades have rigged the system so that there’s not a fair chance for anyone any more," he said at the protests last week.

"We are the 99%", the slogan of Occupy Wall Street, is a reference to the rising wealth of the top 1 per cent of US income distribution. But an equally valid slogan might be: "We get 58%".

That figure is the share of US national income that goes to workers as wages rather than to investors as profits and interest. It has fallen to its lowest level since records began after the second world war and is part of the reason why incomes at the top – which tend to be earned from capital – have risen so much.

If wages were at their postwar average share of 63 per cent, workers would earn an extra $740bn this year, about $5,000 per worker, according to FT calculations.

This so-called labour share has been in gentle decline in most industrial economies, but especially Anglo-Saxon economies, for the last couple of decades. In this recovery, however, something strange and unprecedented is going on.

"Profit margins are not only very high today but [companies’] behaviour has been very unusual," said Andrew Smithers, who runs the consultancy Smithers & Co in London. Profit margins and returns on capital are the flip side of the labour share.

Historically, the labour share tends to rise during recessions as companies hold on to workers and sacrifice profits, then falls back in a recovery. But during the 2008 recession the labour share did the opposite: it fell, and when the recovery began it kept falling.

"What is absolutely remarkable is that profits in the corporate sector are 25-30 per cent greater than they were before the recession, even though there is substantial unused capacity and high unemployment," said Lawrence Mishel, president of the left-leaning Economic Policy Institute in Washington.

The decline in the labour share, along with a shift of labour income towards higher earners, may be an important part of why the US economic recovery is so sluggish.

Workers on lower wages consume much of their income, while higher wage earners and those with capital income are more likely to save. That will not affect total demand if savers lend to those who want to consume or invest in buildings and start-ups – but investment has been slow to recover in the wake of the recession.

Whether the decline in labour share will reverse on its own, or whether it is wise or even possible to reverse it, depends on why it has fallen. Economists have several theories, though none of them fits perfectly with the facts.

"The two primary drivers are globalisation and technological change," Peter Orszag, budget director for President Barack Obama from 2009-2010 and now at Citigroup, argued in a recent column.

The globalisation argument is that China’s wholehearted entry into world trade, along with many of its neighbours, led to a huge increase in the global labour supply. A higher supply of labour relative to capital should mean a lower price.

There are several flavours of technological argument, but in a widely cited 2007 Bank for International Settlements paper, Luci Ellis and Kathryn Smith suggested that the rapid pace of change in computing could push down the labour share. As companies replaced their technology more often, they would also increase workforce turnover – and that would reduce the bargaining power of workers.

Lower bargaining power for workers – often tied to the broad decline of unions – is a third factor often blamed for falling labour shares. Mr Mishel says that the decline in labour share "tells you that employers have the upper hand".

The trouble with all of these arguments, though, is timing. China has been part of the global economy for a couple of decades now and has become a source of capital as well as labour. The IT revolution has been in full swing for at least as long. Unions have been in decline for decades.

The strange behaviour of profits after this recession needs further explanation and Mr Smithers has an innovative idea. "It seems to me that what we’ve seen has been a marked change in corporate behaviour," he says. "They have not responded by cutting prices and competing like fury, they’ve responded by cutting staff."

He suggests that the change is linked to the rise of bonus culture and share options for business executives. The average chief executive of an S&P500 company is only in the job for five or six years and their pay is often closely linked to the share price of their corporation or to its returns on equity.

That creates strong incentives to keep profits high in the short term, and Mr Smithers suggests that those incentives have changed how management responds to a recession. Instead of hoarding labour and cutting prices to grab market share, companies are sacking workers, holding prices and choosing to buy back their own equity rather than make new investments.

If Mr Smithers is right, it is hard to see what will break the cycle and restore a higher labour share. His optimistic scenario is that, over time, competition will lead to more hiring and investment. His gloomier alternative is that it will take another severe recession.

Either way, he points out that as governments in the US and UK reduce their fiscal deficits, cash flow to other sectors of the economy will have to fall and consumers are ill-placed to bear any further burden. "Business is going to need to have both rising investment and falling profits," Mr Smithers argues.

That means the fall in the labour share is not just an important political and economic issue – it is one of vital importance to investors as well. If the fall in the labour share is reversed, either by time or by policy, then the corporate profits that sit on the other side of the scale will have to decline.

Fitch Ratings has cut its long-term ratings for seven major banks in Europe and the US, warning that big financial institutions "are particularly sensitive to the increased challenges the financial markets face".

BNP Paribas and Deutsche Bank both had their long-term issuer default rating downgraded by one notch to A plus, while Bank of America, Citigroup and Goldman Sachs were downgraded from A plus to A. Barclays and Credit Suisse were downgraded by two notches to A, Fitch announced on Thursday evening.

"Over time market conditions are likely to ease, but Fitch expects market volatility to remain above historical averages and economic growth in developed markets to remain subdued for a prolonged period. This makes many business lines in securities operations more difficult, due to lower activity and higher funding costs," said Fitch, the smallest of the three major rating agencies.

While it noted their progress in building up capital and liquidity buffers, Fitch warned that new regulation could exacerbate the banks’ difficulties by restricting their earnings potential and increasing costs.

Fitch left UBS’s ratings unchanged following a downgrade in October. Société Générale and Morgan Stanley escaped with their long-term debt ratings unchanged, but both suffered downgrades of their viability rating, which measures a bank’s intrinsic financial strength.

Investors took the downgrades in their stride when European markets opened on Friday. Shares in the banks affected were broadly flat, with Barclays rising 1.6 per cent to 173.15p.

"I’m not sure how much notice equity markets take of credit ratings on banks at the moment – I don’t change my valuation model if there’s a rating agency downgrade," said Bruce Packard, a banking analyst at Seymour Pierce. "The funding costs are already quite high … and there is already some anticipation of [intervention by] the European Central Bank."

Germany's cherished European fiscal compact was unravelling as Hungary and the Czech Republic said it would be damaging, and protesters in Warsaw demanded Poland stands firm against Angela Merkel.

Amid fresh warnings that Europe is triggering a 1930s global depression, the German Chancellor faced open rebellion against the key plank of her Brussels accord. The leaders of Hungary and the Czech Republic told a joint conference in Budapest they were ready to reject the planned treaty changes and implied plans for a centralised tax system. Czech Prime Minister Petr Necas said he was "convinced that tax harmonisation would not mean anything good for us".

Hungarian Prime Minister Viktor Orban said central Europe had the potential to become the most competitive region in Europe. "The only kind of co-operation we can have with the eurozone is one which does not damage Hungary's competitiveness," he said.

Poles marched under banners that read: "We want sovereignty, not the euro." They were protesting against the Brussels deal that could see EU countries, including those outside the eurozone, face penalties for breaking tough centralised spending laws. Britain used its veto in Brussels, sparking an intense backlash. Ireland and Sweden are also nervous about the fiscal pact, but Germany and France still expect the other 26 members, minus the UK, to approve it.

Meanwhile Mario Draghi doused the other big hope – for radical European Central Bank (ECB) support – warning that the bond buying programme was "neither eternal nor infinite." The head of the ECB said there was little he could do to restore growth.

"I will never be tired of saying that the first response ought to emanate from the country," Mr Draghi said. "There is no external saviour for a country that doesn't want to save itself... Sustainable growth can be achieved only by undertaking deep structural reforms that have been procrastinated for too long."

Separately Christine Lagarde, head of the International Monetary Fund (IMF), added that the raging debt crisis is not yet stemmed: "No country or region is immune. All must take action to boost growth. Work must start in the eurozone countries and must continue relentlessly. The risks of inaction include protectionism, isolation and other elements reminiscent of the 1930s depression."

Even so markets took comfort from a successful Spanish bond auction and the release of better-than-expected economic data. The Stoxx Europe 600 index and the German Dax gained 1pc, the French CAC rose 0.8pc. In London the FTSE closed up 0.6pc.

Madrid sold €6bn (£5bn) of debt at an average yield of 4.02pc – a considerably lower rate than the 5.276pc it was forced to pay two weeks ago. Even so an IMF official said Spain had no time to lose. "It is critical for the new government to quickly deliver the necessary strengthening reforms," said David Hawley. A few hours later Standard & Poor's downgraded 10 Spanish banks.

Fresh data showed that the eurozone economy shrank in the final three months of the year. Markit said its purchasing managers' index (PMI) pointed to a quarterly decline of 0.6pc in the three months to December.

The Eurozone Composite PMI, which looks at the manufacturing and services sectors, rose in December to 47.9 from 47.0 last month. Although the data still pointed to a contraction, it would not be as deep as expected.

Other hope came from Russia which pledged $10bn (£6.4bn) to the IMF to support the euro. European leaders are expected within days to confirm €200bn of extra funding for the IMF.

In his speech, Mr Draghi stressed that the official €440bn bail-out fund, the European financial Stability Facility, would be "fully equipped" and made "operational as soon as possible".

He also urged banks to take advantage of the ECB's "far-reaching" new liquidity support measures to allay a credit crunch as they contend with tighter funding conditions and regulatory demands that they raise €115bn in new capital.

He added: "Euro area banks have three options – raise their capital levels, sell assets or reduce their provision of credit to the real economy. The first option is much better than the second, and the second is much better than the third."

Bank of Greece reveals that investors fearful of political instability and economic collapse pulled €12.3bn from local banks as Papandreou referendum threatened debt deal

An unprecedented exodus of capital from Greece – peaking in a record number of withdrawals from banks in recent months – has exacerbated the liquidity crisis now wracking the recession-hit country.

The latest figures released by the Bank of Greece reveal that in September and October alone investors pulled €12.3bn (£10.3bn) from domestic banks, spurred by fears of political uncertainty and economic collapse.

Overall, outflows have reached a record 25% since September 2009 – when household and corporate deposits stood at a peak of €237.5bn, the data showed.

Theodore Pelagidis, an economics professor at the University of Piraeus, said: "This is part of the death spiral of the recession as a result of austerity measures. People realise that contagion has come to banks and they are very afraid of losing their deposits. On average around €4bn-€5bn in capital flees the banking system every month."

The extraordinary figures back up anecdotal evidence that it is not just the super-rich behind the flight of funds. Over the past year, as the eurozone debt crisis has intensified in the nation where it largely began, there have been countless cases of ordinary depositors hauling suitcases stuffed with cash to the safer destinations of Cyprus, London and Switzerland.

The weekly Proto Thema publication reckons that some 500,000 Greeks have moved money abroad, with a record 1.2m bank transfers being made over the last 18 months. An estimated €40bn, amounting to 17% of the country's gross domestic product, is believed to have been withdrawn from the banking system over the past year.

Foreign banks with branches in Athens were facilitating the cash flight, the newspaper claimed, by encouraging Greek depositors to set up bank accounts abroad. The Swiss banking groups UBS and Credit Suisse had made it much easier for investors to open accounts in Geneva and Zurich by simplifying procedures. "In this way, they are putting the nail in the coffin of liquidity in the Greek financial system," Proto Thema declared.

George Provopoulos, the governor of the Bank of Greece, recently said the exodus of capital had "stabilised" following the appointment of an interim coalition government, headed by the technocratic economist Lucas Papademos.

Tasked with overseeing the latest European Union and the International Monetary Fund-sponsored €130bn bailout for Greece – a rescue package that will include a voluntary write-down on the value of Greek bonds – the new administration appears to have had a calming effect on a populace whose panic levels have risen amid persistent speculation of a Greek default and exit from the euro zone.

Tellingly, most of the outflows occurred in October, when a proposal by Athens' socialist former prime minister, George Papandreou, to hold a referendum over the debt deal shocked Europe and world markets, sparking feverish talk of an inevitable Greek departure from the EU.

"It's not only about capital flight," said one banker, referring to the massive withdrawals. "People have had to tap into their savings as household incomes have declined and they have had to pay bills.

"Instead of moving ahead with privatisations and shutting down useless public utilities, the [previous] government chose to exit the crisis by imposing Taliban tax rates and horizontal wage cuts, which has resulted in liquidity being limited and the Greek economy not operating as it should."

A new treaty to impose tighter discipline among the 17 nations in the European Union that use the euro will come into force once nine countries approve it, according to a draft released Friday. That potentially reduces the threat that disapproval by one nation could scuttle the pact.

The treaty is intended to help improve confidence in the euro by tightening the coordination of the 17 euro zone economies, requiring nations to balance their budgets and cut debt.

The outline of the plan was agreed to by most European leaders a week ago, with the exception of Britain. European officials hope to reach agreement on the eight-page draft of the treaty within weeks, with Britain being offered observer status in discussions.

The treaty will enter into force "on the first day of the month following the deposit of the ninth instrument of ratification by a contracting party whose currency is the euro," the draft states.

That means that if one country held a referendum on the treaty and did not approve it, the decision would not block others from putting it in place once nine other nations ratified it. The terms of the treaty will, however, apply to each country only when the country ratifies it.

If a euro nation fails to ratify the treaty, it would be in an "uncomfortable position" politically, said one European official who spoke on condition of anonymity. The draft makes it clear that countries outside the euro will not be forced to abide by the treaty before joining the currency alliance, but they can opt to do so.

That makes the treaty easy for most of the nations not using the euro to accept, said one diplomat from a country not using the currency who spoke anonymously because he was not authorized to speak publicly.

Because the agreement is an intergovernmental one, rather than an amendment of a European Union treaty, any moves to make sanctions easier to impose on nations that break deficit and debt limits are complex.

Under the proposed treaty, nations would agree to abide by tougher rules than those currently laid down in the European Union treaty. If broken, that agreement could not be enforced by the European Court of Justice, though national courts could be able to do so, officials said Friday.

The treaty would require nations to write debt brakes into their national law. Summit meetings of euro zone leaders would take place at least twice a year.

Jean-Claude Juncker of Luxembourg, who leads the group of euro zone finance ministers, said he was confident that Europeans would meet a Dec. 19 deadline for arranging 200 billion euros ($260 billion) in loans to the International Monetary Fund to help bolster emergency financing for vulnerable nations that use the euro.

Euro zone countries are expected to provide 150 billion euros ($198 billion), while it was hoped that nations not using the euro would contribute around 50 billion euros ($66 billion).

"Countries have to say within 10 days what’s happening, and we’re collecting this at the moment," Mr. Juncker said Friday in Luxembourg, according to Bloomberg News. Asked if the European Union would meet this deadline, he said, "I think so."

Spain and Italy were both told to brace for a debt downgrade after a leading rating agency concluded that a "comprehensive solution to the eurozone crisis is technically and politically beyond reach".

The eurozone's third- and fourth-biggest economies were warned of a "near-term" downgrade alongside Ireland, Belgium, Slovenia, and Cyprus. In a further blow, Belgium separately saw its credit rating downgraded two notches to Aa3 from Aa1 by another leading agency, Moody’s.

It cited the "sustained deterioration" in funding conditions for eurozone countries with relatively high levels of public debt, like Belgium, and new risks stemming from the country's troubled banking sector.

The downgrade and warnings, delivered after the markets closed last night, came as Spain said its debts had soared; talks with Greece’s private bondholders stalled; and Hungary broke off talks with the International Monetary Fund (IMF).

Pitching itself firmly against Germany, the rating agency warned that the European Central Bank (ECB) needed to give a "more active and explicit commitment" to prevent "self-fulfilling liquidity crises" ripping through the eurozone. The ECB's support for eurozone banks was praised but Fitch said the central bank's "continued reluctance to countenance a similar degree of support to its sovereign shareholders" was undermining the efforts to create a firewall to stem the crisis.

As a result the "crisis will persist and likely be punctuated by episodes of severe financial volatility" which threatened these six countries in particular because of their high levels of public debt.

Fitch's warning came as another ratings agency - Moody's - downgraded Belgium's credit rating by two notches to Aa3 from Aa1 late on Friday. The ratings agency cited tough eurozone funding conditions and further woes from its dismantling of troubled bank Dexia and Belgian government's total exposures to the group will likely rise and, in Moody's views, could reach between 15% and 20% of GDP.

A draft copy of the agreement from last week's "make or break" summit in Brussels revealed leaders' plans for a "fiscal compact" that commits countries to keeping their primary deficits below 0.5p of GDP and debt levels below 60pc of GDP. Countries that break this "golden rule" face punishment from the European Courts of Justice.

The draft says just nine eurozone countries are needed to ratify the deal, after which it will be binding on each subsequent country that ratifies it. The eight-page draft document will be discussed by member states at a meeting in Brussels on Tuesday. Despite vetoing the idea at last week's summit, Britain has been invited to join the discussions as an "observer".

Fitch said it recognised the "positive commitments" but said its concerns for the debt crisis had "not been materially eased by the summit outcome". The agency said it welcomed leaders' pledges to accelerate the creation of the permanent bail-out fund, the European Stability Mechanism (ESM). But its "particular concern" was still the "absence of a credible financial backstop" in the eurozone.

There were signs that the stiff resolve for the ECB not to intervene were beginning to crack. Ignazio Visco, a member of the ECB's governing council, said: "The impression is that there is only one way to convince markets and we'll work on that." He added: "There is some reason for optimism. There is a determination to save the euro, our common currency."

Meanwhile Klaus Regling, chief executive of the European Financial Stability Facility, said he was surprised by the impression that only the ECB has the resources to tackle the debt crisis. He also said Greece may need €100bn for its second bail-out programme.

In Athens, officials from the EU, ECB and IMF "troika" wrapped up a week-long inspection of Greek finances saying a deal with private bondholders was not certain. In Rome, Italian Prime Minister Mario Monti won a crucial vote of confidence on his €30bn austerity package. Chancellor Angela Merkel also won a vital ballot that defeated rebels who wanted to prevent Germany from backing the ESM.

Politicians were less successful in Budapest as IMF officials left talks aimed a striking a deal of financial assistance without explanation.

Yields on 10-year Spanish bonds dropped 25 basis points to 5.1pc following its successful €6bn debt auction. However, fresh data from its central bank showed Spain's public debt has risen above the 60pc ceiling to 66pc of output in the third quarter, up from 58.7pc last year.

Two former CEOs at mortgage giants Fannie Mae and Freddie Mac on Friday became the highest-profile individuals to be charged in connection with the 2008 financial crisis.

In a lawsuit filed in New York, the Securities and Exchange Commission brought civil fraud charges against six former executives at the two firms, including former Fannie CEO Daniel Mudd and former Freddie CEO Richard Syron.

The executives were accused of understating the level of high-risk subprime mortgages that Fannie and Freddie held just before the housing bubble burst. "Fannie Mae and Freddie Mac executives told the world that their subprime exposure was substantially smaller than it really was," said Robert Khuzami, SEC's enforcement director.

Khuzami noted that huge losses on their subprime loans eventually pushed the two companies to the brink of failure and forced the government to take them over. The charges brought Friday follow widespread criticism of federal authorities for not holding top executives accountable for the recklessness that triggered the 2008 crisis.

Before the SEC announced the charges, it reached an agreement not to charge Fannie and Freddie. The companies, which the government took over in 2008, also agreed to cooperate with the SEC in the cases against the former executives.

The Justice Department began investigating the two firms three years ago. In August, Freddie said Justice informed the company that its probe had ended. Many legal experts say they don't expect the six executives to face criminal charges.

"If the U.S. attorney's office was going to be bringing charges, they would have brought it simultaneously with the civil case," said Christopher Morvillo, a former federal prosecutor now in private practice in Manhattan.

Robert Mintz, a white-collar defense lawyer, says he doubts any top Wall Street executives will face criminal charges for actions that hastened the financial crisis, given how much time has passed. Mudd, 53, and Syron, 68, led the mortgage giants in 2007, when home prices began to collapse. The four other top executives also worked for the companies during that time.

In a statement from his attorney, Mudd said the government reviewed and approved all the company's financial disclosures. "Every piece of material data about loans held by Fannie Mae was known to the United States government and to the investing public," Mudd said. "The SEC is wrong, and I look forward to a court where fairness and reason — not politics — is the standard for justice."

Syron's lawyers said the term "subprime had no uniform definition in the market" at that time. "There was no shortage of meaningful disclosures, all of which permitted the reader to assess the degree of risk in Freddie Mac's" portfolio, the lawyers said in a statement. "The SEC's theory and approach are fatally flawed."

According to the lawsuit, Fannie and Freddie misrepresented their exposure to subprime loans in reports, speeches and congressional testimony. Fannie told investors in 2007 that it had roughly $4.8 billion worth of subprime loans on its books, or just 0.2 percent of its portfolio. That same year, Mudd told two congressional panels that Fannie's subprime loans represented didn't exceed 2.5 percent of its business.

The SEC says Fannie actually had about $43 billion worth of products targeted to borrowers with weak credit, or 11 percent of its holdings. Freddie told investors in late 2006 that it held between $2 billion and $6 billion of subprime mortgages on its books. And Syron, in a 2007 speech, said Freddie had "basically no subprime exposure," according to the suit. The SEC says its holdings were actually closer to $141 billion, or 10 percent of its portfolio in 2006, and $244 billion, or 14 percent, by 2008.

Syron also authorized especially risky mortgages for borrowers without proof of income or assets as early as 2004, the suit alleges, "despite contrary advice" from Freddie's credit-risk experts. He rejected their advice, "in part due to his desire to improve Freddie Mac's market share."

Fannie and Freddie buy home loans from banks and other lenders, package them into bonds with a guarantee against default and then sell them to investors around the world. The two own or guarantee about half of U.S. mortgages, or nearly 31 million loans. During the financial crisis, the two firms verged on collapse. The Bush administration seized control of them in September 2008.

So far, the companies have cost taxpayers more than $150 billion — the largest bailout of the financial crisis. They could cost up to $259 billion, according to their government regulator, the Federal Housing Finance Administration.

Mudd was paid more than $10 million in salary and bonuses in 2007, according to company statements. He was fired from Fannie after the government took over. He's now the chief executive of the New York hedge fund Fortress Investment Group.

Syron made more than $18 million in 2007, according to company statements. His compensation increased $4 million from 2006 because of bonuses he received — part of them for encouraging risky subprime lending, according to company filings. It's not clear what portion of the bonuses was for his efforts to promote subprime lending. Syron resigned from Freddie in 2008. He's now an adjunct professor and trustee at Boston College.

The other executives charged were Fannie's Enrico Dallavecchia, 50, a former chief risk officer, and Thomas Lund, 53, a former executive vice president; and Freddie's Patricia Cook, 58, a former executive vice president and chief business officer, and Donald Bisenius, 53, a former senior vice president. Lund's lawyer, Michael Levy, said in a statement that Lund "did not mislead anyone." Lawyers for the other defendants declined to comment Friday.

Based on the outcomes of similar cases, the lawsuit might not yield much in penalties against the former executives.

In July, Citigroup paid just $75 million to settle similar civil charges with the SEC. Its chief financial officer and head of investor relations were accused of failing to disclose more than $50 billion worth of potential losses from subprime mortgages. The two executives charged paid $100,000 and $80,000 in civil penalties.

Fines against executives charged in SEC civil cases can reach up to $150,000 per violation. SEC Chairman Mary Schapiro has asked Congress to raise the limit to $1 million. The SEC has brought other cases related to the financial crisis since it began a broad investigation into the actions of Wall Street banks and other financial firms about three years ago.

Goldman Sachs & Co., for example, agreed last year to pay $550 million to settle charges of misleading buyers of a complex mortgage investment. JPMorgan Chase & Co. resolved similar charges in June and paid $153.6 million.

Citigroup Inc. agreed to pay $285 million to settle similar charges, though that settlement was recently struck down by a federal judge in New York City. Most cases, however, didn't involve charges against prominent top executives.

An exception was Angelo Mozilo, the co-founder and CEO of failed mortgage lender Countrywide Financial Corp. He agreed to a $67.5 million settlement with the SEC in October 2010 to avoid trial on civil fraud and insider trading charges that he profited from doling out risky mortgages while misleading investors about the risks.

Tempers are fraying in austerity-racked Portugal. A top socialist politician was taped at a party dinner calling for diplomatic warfare against the EU's northern powers and issuing threats of debt default.

"We have an atomic bomb that we can use in the face of the Germans and the French: this atomic bomb is simply that we won't pay," said Pedro Nuno Santos, vice-president of the Socialist Party in the parliament.

"Debt is our only weapon and we must use it to impose better conditions, because recession itself is what is stopping us complying with the (EU-IMF Troika) accord. We should make the legs of the German bankers tremble," he said.

The comments came as Portugal slides deeper into recession, with the economy expected to contract by 3pc next year. Protesters marched through Lisbon on Thursday denouncing plans by the new conservative government to raise the working week to 42 hours. Wages are being cut 16pc for higher paid, and 8pc for lower paid public workers. The parliament passed a fresh austerity budget earlier this month under the terms of its €78bn loan package from the EU and the International Monetary Fund.

Mr Nuno Santos said Europe's southern states should join forces to resist the austerity dictates and contractionary policies being imposed by the core powers. "It is incomprehensible that the peripheral countries don't do what the French president and the German Chancellor do. They should unite," he said.

Left-leaning parties in Europe are becoming increasingly defiant, accusing the Right of exploiting its grip on the European machinery to force through polices that are in effect dismantling parts of the welfare state or undermine trade union power. Germany's Angela Merkel, France's Nicolas Sarkozy, and Holland's Mark Rutte are all conservatives, and will soon be joined by Spain's Mariano Rajoy.

Francois Hollande, France's Socialist leader and front-runner in the presidential elections, has vowed to renegotiate last week's EU summit deal if elected next May, saying it violates the fiscal sovereignty of the French parliament, imposes perpetual austerity, and fails to offer struggling states any way out of economic crisis. "There must be growth," he said.

Oskar Lafontaine, a leader of Germany's Linke (Left) party, said the euro was hurtling towards destruction on current policies. He blamed Germany's system of screwing down wages to undercut other EMU countries – or "wage dumping" – for causing the imbalances behind the eurozone crisis. "A shared currency cannot work without coordination of wage policy. Once wages have diverged as far as they have in recent years, devaluation and revaluation is the only way out."

He accused Merkel and Sarkozy of driving Greece into a downward spiral and now trying to inflict the same "demented" policies on the whole of Europe.

Repossessed houses in Spain are worth 43 percent less on average than the valuations assigned on the mortgages for the properties, according to Fitch Ratings.

Price declines range from 20 percent to 58 percent, analysts Juan David Garcia and Carlos Masip in Madrid wrote in a report analyzing 8,235 properties funded by loans from banks including Banco Santander SA (SAN) and Bankia SA. The mortgages are in asset-backed securities with high loan-to-value ratios.

"Fitch does not expect lending to recover in 2012, as financial institutions are more focused on optimising their balance sheets, while their access to funding is limited," the analyst wrote. "Lending is likely to remain concentrated on existing high-quality borrowers and on potential buyers of banks’ repossessed properties."

The impact of falling house prices on mortgage-backed securities has been cushioned by some banks that bought defaulted loans from the deals at above-market prices, Fitch said. That support will wane as lender liquidity dries up.

Spanish home prices fell for the 14th consecutive quarter as unemployment surged and a drop in mortgage lending crimped demand for property. The average price of houses and apartments dropped 7.4 percent in three months ended Sept. 30 from the same period a year earlier, according to the National Statistics Institute in Madrid.

European leaders last week agreed to outfit the International Monetary Fund with 200 billion euros to assist countries in the common currency zone. But Germany's central bank has its doubts: Some heavyweight countries are balking, and it also increases risks for German taxpayers.

The shock waves from last week's European Union summit in Brussels were difficult to ignore, with Great Britain emerging as isolated and the rest of the bloc promising to take steps toward fiscal union.

A closer look at the fine print, however, revealed that the 27 heads of state and government really only emerged from the summit with one concrete pledge aimed at dampening the most immediate effects of the debt crisis currently battering Europe. They vowed to loan up to €200 billion ($260 billion) to the International Monetary Fund so that the IMF could step up its aid to European countries in need.

Now, though, with Germany's central bank showing increasing doubts about the fund and others demonstrating an unwillingness to participate, even that measure may now be in doubt. Bundesbank head Jens Weidmann has insisted that before Germany sends its €45 billion share to the IMF, it needs assurances that other fund members outside of Europe are also willing to help out.

Russia indicated its willingness to play along on Thursday. There are indications, however, that the United States will not help out. According to Bloomberg, Federal Reserve Chairman Ben Bernanke told Senate Republicans on Wednesday that the Fed would not devote more money to the IMF.

US President Barack Obama has also said that the IMF has sufficient resources. Canada too has shown no interest in the IMF plan. And Japan has insisted that Europe do more on its own.

Increasingly UnrealisticBut there are problems in Europe too. British Prime Minister David Cameron on Wednesday made it clear that his country would only contribute €10 billion, far lower than the €30 billion EU leaders had expected, according to the Financial Times.

The Czech Republic, for its part, has said it will chip in its share of €3.5 billion if all EU countries participate. Furthermore, it wants to take its time to thoroughly examine the plan -- making next Monday's envisioned deadline for collecting European funds look increasingly unrealistic.

The agreement on the €200 billion IMF fund is essentially an admission that the current euro bailout fund, the European Financial Security Facility (EFSF), is likely not large enough to handle Italy's -- or even Spain's -- refinancing needs should they run into trouble.

Plans are afoot to leverage the EFSF, but the fund's spending power is likely to max out at €750 billion. The current consensus, voiced most recently by European Central Bank governing council member Klaas Knot, holds however that at least €1 trillion is necessary to stabilize the euro.

IMF Managing Director Christine Lagarde on Thursday underlined the severity of the crisis in comments during a conference at the US State Department. She said that the global economy is faced with threats similar to those which triggered the Great Depression in the 1930s. "It's not a crisis that will be resolved by one group of countries taking action," she said. "It's going to hopefully be resolved by all countries, all regions, all categories of countries actually taking action."

Still, it is Germany's central bank which is causing the most consternation. Weidmann has said that, despite the Bundesbank's independence, he would like parliamentary backing for the measure. Furthermore, he is against earmarking the proposed €200 billion IMF fund solely for European use, saying it should be used to strengthen the IMF as a whole.

'Back on Course'According to a report in the Financial Times Deutschland newspaper on Friday, Weidmann has also highlighted the dangers the IMF fund poses to Germany's €211 billion share of the EFSF.

Because of the IMF's "preferred creditor status," debts to the IMF are paid back first, meaning that should a country where both the IMF and the EFSF are involved becomes insolvent, the EFSF -- and thus Germany -- stands to lose at least a portion, if not all, of its contribution. According to the paper, Weidmann warned German Finance Minister Wolfgang Schäuble of the dangers on the day of the summit last week.

"The risk structure of Germany's maximum guarantee of €211 billion changes if the IMF becomes significantly involved in additional programs for euro-zone countries," an unnamed Bundesbank source told the Financial Times Deutschland.

Weidmann has remained consistent in his fiscal policy conservatism when it comes to efforts to prop up the euro and aid heavily indebted euro-zone countries. Indeed, he remains vociferously opposed to any additional bond-buying by the European Central Bank as a way to keep borrowing rates for countries such as Italy and Spain down.

And it has become increasingly clear that new ECB head Mario Draghi has become a convert. "I will never be tired of saying that the first response ought to emanate from the country," Draghi said during a Thursday speech he held in Berlin, his most recent indication that the ECB seeks to avoid becoming Europe's lender of last resort. "There is no external savior for a country that doesn't want to save itself."

At the same time, he also urged European policy makers to hurry up. "The crisis has not ended yet," Draghi said. "It is now important not to lose momentum and to swiftly implement all those decisions that have been taken to put the euro area economy back on course."

Credit Agricole will stop trading commodities and will also slash its financing of the multi-billion-dollar market, the most sweeping commodity cuts yet among European banks strained by the euro zone crisis.

Credit Agricole, the formerly farm-focused bank that had boosted its energy trading in recent years, warned on Wednesday of losses and write-downs as it struggles to cope with the credit crunch. The cuts come just weeks after rival Societe Generale shut down its year-old U.S. gas and power trading desk, and leader BNP Paribas consolidated.

The deepening euro zone debt crisis has hit French banks hard as traditional sources of dollar funding have evaporated and as they face pressure to meet tougher capital requirements. Volatile commodity prices, dimmer growth prospects and tougher regulation are also forcing some firms to question the outlook for the decade-long boom in trading raw materials.

Cargill Inc. CARG.UL, which has voiced a bleaker economic outlook for next year than most of its peers, is cutting 125 jobs worldwide from its energy, transportation and metals operations as part of plans to reduce 2,000 or 1.4 percent of its global workforce over the next six months.

Trade sources said more companies may follow. "What is happening with Credit Agricole is certainly a major trend across banking where the entire commodities trading business is shrinking," said a senior commodities trader who recently left a major bank for an independent trading house. "It is happening because of regulations, as proprietary trading is not allowed any more and because people have overspeculated in the past years and got badly burnt."

Credit Agricole's commodities trading employs around 100 staff globally, including traders, analysts, marketing teams and technical staff, sources close to Credit Agricole said. A source in the bank said many employees had only learned of the closure of the commodities trading unit on Wednesday: "It has all happened very quickly. It is a shock."

Credit PressureOn Wednesday, Credit Agricole Chief Executive Jean-Paul Chifflet said the bank was pulling out of commodities because it had less expertise in the field than other core areas: "We preferred to stop it completely and devote our energy to other activities," he said. But Chifflet told Les Echos newspaper the bank would not sell its holding in Newedge, a commodities futures and clearing brokerage it co-owns with Societe Generale.

Last year, the head of Credit Agricole's commodities trading division, Martin Fraenkel, told Reuters energy was a key growth area because "clients of the bank have ever more need for hedging services in these markets". The bank had just secured a potentially potent tie-up with power trading giant ETF Trading.

But nearly two years on, European banks are under enormous pressure in credit markets and only very large banks have scope to expand. Credit Agricole may be the first of several banks to drop commodities trading, said the senior commodities trader: "The major players - Goldman Sachs, Morgan Stanley, Merrill Lynch, Deutsche Bank - are still hiring to replace people who leave to funds and trading houses. But small and medium-sized banks are just shutting everything down."

Morgan Stanley said on Wednesday it would cut 1,600 employees in the first quarter; it did not say how many, if any, would be in its commodities division, which ranks with Goldman Sachs and JP Morgan as one of the three largest in the world.

A senior oil trader at a major European bank said only very large players could now survive in commodities: "They (Credit Agricole) wanted to have a commodities arm but the appetite for risk was so small it was impossible to do big deals."

Credit Agricole, which has expanded from its agricultural origins in recent years, said on Wednesday it would cut 2,350 jobs and exit 21 of the 55 countries where it operates and shutter entire businesses including equity derivatives.

BNP Paribas, Europe's trade finance leader in commodities, has been cutting its trade finance portfolio, drastically reducing exposure to small and medium sized oil and metals firms and reselling part of that exposure, bankers say. A spokeswoman declined to comment.

In November, traders said the bank would close its Houston energy trading office and move some of the team to New York. It has also lost a senior metals trader. Last week, Societe Generale told employees it would shut down its Stamford, Connecticut-based physical gas and power operation and lay off most of the 140 or so employees at the trading unit it bought less than a year earlier from RBS Sempra.

"Very, Very Strong Reduction"Many details of the changes only emerged on Thursday. The bank's commodities derivatives business, trading oil, gas, metals and softs, is based in London and Hong Kong. It also has market representatives in Tokyo, Singapore and New York.

Credit Agricole has been active in oil hedging, traders said, and does not have a reputation for taking on major risk. "It was very flow-based, rather than proprietary," said a London-based trader with a bank. He said the bank hedged oil positions for airlines, taking positions on over-the-counter jet fuel derivatives and gas oil on the IntercontinentalExchange.

Sources close to Credit Agricole say the bank also plans to cut dramatically its commodities trade financing, which involve commitments of tens of billions of euros, but the exact scale of the retrenchment was unclear.

"In terms of commodities financing, they plan a very, very strong reduction in their activities," a source close to Credit Agricole said, adding the full array of short-term and longer-term letters of credit and export credit would be affected.

The bank's Geneva-based trade finance activities have about 120 people spread around the world, according to a former head of a commodities unit at Credit Agricole Corporate and Investment Banking who left the company just months ago. Credit Agricole's commodities financing activities concern around 600 people, of which at least half are in France, and involve commitments of tens of billions of euros.

Tough MarketsCargill is not alone among trading houses responding to a disappointing 2011 performance, Swiss-based coal traders said. Coal has been a particularly tough market for traders this year because prices have been largely stagnant and liquidity has been lower. Without liquidity and volatility, trading profits have been hard to come by.

"We can confirm that as a result of the internal structural changes there have been some personnel changes which will affect around 125 employees in our Energy, Transportation and Metals operations around the world," a Cargill spokesman said.

Cargill has 600 employees in its Geneva office and around 1,100 worldwide in the non-oil Energy Transportation Industrial (ETI) business group. Cargill will keep the split in its energy business between oil and non-oil with a global non-oil division made up of coal, gas, power and carbon trading and headed by Frank Rivendal, formerly head of power and gas in the U.S. for Cargill.

"Broadly speaking, the big changes are over and very few have been fired so far but there may be a few more job cuts," one source said. "In 2008-2009 everybody made money because prices were so volatile but this year prices have been stagnant and for the first time in a decade, even the big trading houses are facing a downturn in earnings," he added.

Last month Cargill former head of coal based in Geneva, Patrick Bracken, left to return to the U.S. and Peter Biston, Geneva-based head of power and gas, a junior gas trader and a power trader lost their jobs. Cargill Ferrous International in November shut its physical steel trading desks in Hong Kong and Geneva and its top sugar trader, Jonathan Drake, left in early December.

"That (restructuring) makes sense. In the previous structure oil made a lot of money and they couldn't bonus traders as power and gas were down. Now oil can live or die by its own performance," said Peter Henry, senior consultant with Commodity Search Partners.

For oil and gas explorers, turning reserves into production isn't a cheap business. Thanks to the European banking crisis, it's about to get even more expensive.

French banks such as BNP Paribas, Crédit Agricole and Société Générale have long dominated the market for loans to oil companies secured against reserves. But these banks are now raising prices and cutting credit. For exploration and production companies, finding funds could soon get as hard as finding oil.

Reserve-based lending is predominantly a dollar-based business and already quite conservative. Loans, which can run into the billions of dollars, typically are made over three to seven years, shorter than for normal project-finance loans. Banks usually lend assuming long-term oil prices at $65 a barrel, well below current $100 prices.

But European banks have been starved of dollar funding since the summer, forcing them to retreat. The cost of reserve-based loans is now at about four to 4.5 percentage points over the London interbank offered rate, or Libor, compared with 2.5 to three points at the start of 2011, says the head of energy lending at one major French bank.

For companies that previously enjoyed low borrowing costs, that will come as a shock; the chief financial officer of one major exploration and production company says that next year he will need to refinance $2 billion of 2007 loans priced at less than one percentage point over Libor.

Banks from Japan and Australia have been stepping into the gap, some people in the industry say. But longer term their activity also could be hampered by Basel III rules, which force banks to set aside more capital for reserve-based lending. As banks look to preserve capital, they are unlikely to lend more than half of a project's cost in the future, Ernst & Young forecasts.

Since equity generally costs more than debt, exploration and production companies face a rising cost of capital overall. In the current climate, raising equity may not be easy either, meaning the sector could be ripe for consolidation. Certainly, investors may not have priced in the exploration and production credit crunch; London-listed exploration and production stocks have fallen in line with the FTSE 250 and larger integrated oil companies since early July.

The funding squeeze may not have extracted all the fuel out of exploration and production stocks yet.

A comprehensive solution to the euro zone debt crisis is beyond the region's reach, rating agency Fitch said, warning that six of its economies including Italy and Spain could be hit with credit downgrades in the near future.

The warning late Friday, the second time in two weeks that the bloc has been threatened with multiple ratings markdowns, heightened pressure on leaders to get to grips with the turmoil.

Fitch also said it might also cut AAA-rated France within two years and urged the European Central Bank to take a more active firefighting role.

One ECB policymaker said Saturday that time was running out to come up with solutions to a crisis that could spark a global slump. Another said the bank would not expand the bond buying program it launched to keep a lid on vulnerable states' debt costs.

Underscoring tensions within the bloc, a week after a key EU summit failed to reassure financial markets the crisis was being tackled, Italy's Prime Minister Mario Monti urged EU policymakers Friday to beware of dividing the continent.

ECB ratesetter Erkki Liikanen said that, to prevent a flurry of ratings downgrades and a credit freeze, the continent's leaders needed to act fast to beef up the rescue funds designed to provide a safety net for debt-laden member countries.

"The worse scenario is that the negative cycle continues, uncertainty grows, which would lead to a global recession," Liikanen - a member of the bank's governing council -told Finnish public broadcaster YLE in an interview Saturday.

International Monetary Fund head Christine Lagarde had said no country was immune from the crisis and each needed to act to head off the risk of a global depression.

In a swipe against Germany, Italy's Monti said Europe's response "should be wrapped in a long-term sustainable approach, not just to feed short-term hunger for rigor in some countries."

Pushing for governments to eliminate their bloated budget deficits, Germany has led resistance to allowing the ECB to ramp up its bond purchases to a big enough scale to douse the crisis.

But Fitch added to the pressure for just such a move. The agency said that, following the EU summit, it had concluded that "a 'comprehensive solution' to the eurozone crisis is technically and politically beyond reach."

"Of particular concern is the absence of a credible financial backstop," it said. "In Fitch's opinion this requires more active and explicit commitment from the ECB to mitigate the risk of self-fulfilling liquidity crises."

A second ECB policymaker, Juergen Stark, said expanding bond buys would not end the crisis, while swift implementation of the plan on closer fiscal union agreed at the summit was crucial.

"Don't ask too much of the central bank," Stark - who steps down from the executive board at year-end - was quoted as saying Saturday in pre-released extracts from a German magazine interview.

Fitch put Belgium, Spain, Slovenia, Italy, Ireland, and Cyprus on negative watch, which could mean a downgrade within three months.

"The systemic nature of the euro zone crisis is having a profoundly adverse effect on economic and financial stability across the region," it said.

Less than two weeks earlier, citing continuing disagreements among policymakers over how to tackle the crisis, rival agency Standard & Poor's put the ratings of 15 euro zone states, including Germany and France, on review for one- to two-notch downgrades.

The third main agency, Moody's, Friday cut Belgium's credit rating by two notches, saying the crisis raised funding risks for countries with high public debt burdens, and said a further downgrade was possible within two years.

Belgium's Finance Minister Steven Vanackere told Reuters on Saturday the cut was not a big surprise but had added pressure on the country to hit next year's budget deficit target of 2.

A first draft of a planned new 'fiscal compact' among euro zone countries and aspiring members, published Friday, showed that countries could be taken to the European Court of Justice if they did not meet agreed budget goals.

German Chancellor Angela Merkel - under pressure from the Bundesbank to force debt-saddled euro zone countries to reform and save their way out of crisis with austerity measures - has led a push for automatic sanctions for deficit "sinners."

This has fed concerns that excessive belt-tightening in southern countries could send their economies into a negative spiral with no prospect of growing out of crisis, while feeding resentment in the prosperous north.

In France, officials have sought to prepare the public for the likelihood that Paris will lose its top-notch rating for the first time since 1975, playing down the potential setback and focusing attention instead on questioning neighboring Britain's AAA rating. President Nicolas Sarkozy had vowed to keep the top rating, and it could become an issue in next year's election campaign.

EFSF firepowerEuro zone officials said potential downgrades, particularly from S&P, could raise the cost of borrowing for the region's existing EFSF bailout fund, but would not make a big difference to its operations.

EFSF chief Klaus Regling said Friday about 600 billion euros was available to fight the crisis. "If Italy and Spain were to ask for support, their gross financing needs for 2012 are less than that and I don't think they would need to be taken off the market," he said.

Euro zone countries will hold talks next Monday on the draft text of the euro zone fiscal compact and on bilateral loans to the International Monetary Fund, officials in Brussels said. Slovak Finance Minister Ivan Miklos told Reuters they would commit 150 billion euros to boost the IMF's lending capacity.

The United States has refused to offer additional funding and it remains to be seen how much countries such as China, Russia, Brazil and India are willing to commit.

Commercial banks appear to be resisting pressure from governments to help debt-choked euro zone countries by using cheap money lent by the ECB to buy more sovereign bonds.

The chief executive of UniCredit, one of Italy's two biggest banks, said this week that using ECB money to buy government debt "wouldn't be logical."

Euro zone governments need to sell almost 80 billion euros of fresh debt in January alone, and the stand-off between policymakers and banks could turn the slow-burning debt crisis into a conflagration in the New Year.

European Union and International Monetary Fund officials broke off preliminary talks with Hungary over new financial backing because of fears the government is trying to limit central bank independence and lock in fiscal policies before any loan agreement can be negotiated, people familiar with the situation said.

Heavily indebted Hungary—under threat from rising borrowing costs and a sharply depreciating currency as global markets shudder—said last month it would seek cooperation with the IMF and EU for a "safety net" that would reassure investors about the country's stability and credit-worthiness.

EU monetary-affairs spokesman Amadeu Altafaj-Tardio said Friday the EU, along with the IMF, "decided to interrupt the preparatory mission" in Hungary because of concern about "the intention of the Hungarian authorities to push forward with the adoption of laws that can potentially undermine the independence of the central bank."

The IMF issued a similar statement, adding that central bank independence "is one of the cornerstones of sound economic management." The fund said it would stay in touch with Hungarian authorities "to determine the next steps." Hungary's currency, the forint, fell 1.4% against the euro after the comments, before regaining ground—to 0.78% lower in late trading.

In a statement, Hungary's chief representative at the talks, Tamas Fellegi, said "this in no way means the interruption of the official negotiating process," emphasizing that this week's talks were informal consultations. He added that Hungary remains ready to begin formal talks in January without preconditions.

It isn't clear how the latest events will affect Hungary's stance on joining the proposed EU fiscal pact agreed to at last week's summit. Hungary's Parliament is to discuss whether the country should sign on. Officials say they are awaiting details of the agreement. Hungary supports measures to enforce budget discipline, but it doesn't think taxes should be harmonized across the EU.

The Parliament this week speeded up consideration of legislation to change the management structure of the central bank and the makeup of its interest-rate setting committee. The National Bank of Hungary and the European Central Bank have criticized the law as a possible threat to the central bank's freedom.

Lawmakers in Hungary also are weighing a so-called financial-stability law that would cement tax and debt policies—and require a two-thirds majority of the legislature to agree to future changes. If the law passes, it would limit the government's flexibility to negotiate budgetary requirements for any loan package. The new legislation, for example, mandates a flat tax on incomes, rather than any progressive rate.

In their public statements, Hungarian Prime Minister Viktor Orban and his aides have stressed they want a precautionary agreement with the IMF and EU. Because they don't intend to draw on any credit line, they have said, they expect the strings attached to the money to be limited.

On Friday morning, Mr. Orban said in a radio interview that once formal talks begin, "the government doesn't wish to discuss its economic policies with the IMF." He said the talks were, in effect, "Hungary negotiating with its own bank," since it is a member of the IMF.

Market analysts have said the more conditions attached to any IMF and EU loan package, the more reassuring it is likely to be to investors, who have been skeptical about some of Hungary's unorthodox policy decisions in the past, such as a move last year to bring privately managed pension funds back into state coffers.

Hungarian officials have said they are seeking a precautionary liquidity line, a type of arrangement that the IMF extends to countries that it considers to be in strong fiscal shape and pursuing prudent policies. The IMF won't comment on its position.

In an interview Friday, Zoltan Csefalvay, a state secretary in the Economy Ministry, expressed openness to other types of deal. "We'll see what the IMF offers," Mr. Csefalvay said. He stressed that Hungary is in much better shape than it was in 2008, when it became the first European country to be bailed out by the EU and IMF when global credit markets froze after the collapse of U.S. investment bank Lehman Brothers.

Mr. Csefalvay said Hungary's economy expanded in 2011, its budget deficit is below 3% of gross domestic product as required by the EU, and its current account—a measure of international trade and payment flows—is in surplus.

Some pretty interesting images in the slideshow (click on the "images" shortcut in this Businessweek article). In slide 3, the woman on the right (white shirt) looks like she is ready to kick some ass. I would not want her pissed off at me.

I've recently become a convert to the deflation camp thanks in large part to the tireless and persuasive work of your dear leaders here at TAE, but there are still a few nagging questions that I was hoping someone might be able to clarify...

I know a central tenet of Stoneleigh's advice is that people will need to move into hard assets at some point to protect against currency devaluation.

#1. Since TPTB will not likely announce when they plan to abandon the dollar, what event(s) might signify that it's time to get out of cash?

#2. Is a banking collapse always a prerequisite for hyperinflation? Would a banking collapse necessarily include one or more of the big 6 banks?

#3. Given the FED's eagerness to destroy its own balance sheet, how does a bank run logistically overwhelm the FED's ability to throw fresh money at a failing bank?

#4. How might the bond market impose discipline on the FED when the FED is already the largest holder of treasuries? In other words, what prevents the FED from buying up any treasuries that others might sell?

#5. And finally, would an official announcement of QE3 do anything to alter the outlook at TAE regarding imminent deflation? If not, is there anything that would?

Thanks in advance for swiftly disposing of my ignorance in these matters.

"Today there is another wrinkle that needs to be added to his moral: That, when the ants and the grasshoppers are distributed across the division separating surplus from deficit nations within a badly designed monetary union, the stage is set for a depression that sets all against all in a vicious spiral from which only losers can emerge."

Vaclav Havel died and the dream of marriage of capitalismus and democracy is dying all around us. I believe that his main message is following: "take the system based on pretense in a face value, and it will crumble". Huge bravery was needed to retain dignity in the totalitarian regime (I remember) and not a lesser measure will be needed in the future aswell. RIP.

medved said, "...and not a lesser measure ( bravery ) wil be needed in the future as well.I agree and hope I don`t let myself down. I have a low pain threshold:)

Looking at the brutal assault to-day on protesters( many brave women) in Tahrir Sq., in Bahrain...`

In the Fishead video posted by Greenwood there was discussion about why we are so passive. Apparently 89 million Americans are taking some form of anti-depressant rendering one`s emotional range narrow, so narrrow as to be compared to the emotionally shallow range of feeling by psychopaths. Bingo. If our feelings are numbed we sure won`t notice we are being abused. Add to that situation the new understanding that we are affected by 3 degrees of association. Our friends, friends of friends etc even when we haven`t met them. so even if one is not on `happy pills `a connection in your network may be and that person`s state affects your world. In this light how many will feel the full measure of pain and indignity proposed by the current system and oppose it, be brave enough to challenge it at great personal costSorry about the missing punctuation. something amiss with my keyboard....

I am just wondering what everyone thoughts are on the recent passage of the NDAA 2012 that allows for indefinite detention of anyone deemed a "terrorist" in the US. Is this really just the government removing those pesky enumerated rights that impede their "war on terror", or are TPTB aware of the coming collapse, and establishing a mechanism to deal with those who dissent?http://www.zerohedge.com/contributed/dont-be-fooled-indefinite-detention-bill-does-apply-american-citizens-us-soil

You certainly dig up some interesting links. I think the Aesop fable has a very poor connection to what went down in the Eurozone, but Varoufakis simply brought it up to discredit its conventional and misguided application to the eurozone crisis. In the process though, he does make it quite clear who the screwers and the screwed are, if not the ants and the grasshoppers.

also

Remember Dominic Strauss Kahn who was a major part of this comment section half a year ago? Well when reading Ilargi's piece this morning (and an excellent summary and analysis it was) and specifically reading Lagarde's warnings of oncoming catastrophe, old DSK came back to mind. Particularly the video of him being frog marched by Generalisimo Bloomberg's finest thugs. Of course, resembling a frog intensified the image. In any event, it appears pretty obvious at this point in history that he was set up in a honeypot scam. It appears that the black Snow White, like Monica, had a few stains on her dress that preceded DSK. So the question arises - who and why?

Two answers jump to mind. One of course is Sarkozy wanting to take him out of the presidential race. And the other is to get him ousted, muy pronto, as the big kahuna of the IMF. While the two are not mutually exclusive, it appears to me the way the shit went down that Timmay and Bennie were exercising some influence with NYC law enforcement. And they really didn't care about the French election coming up the following year. Well, DSK was the head of the French socialist party, and neoliberals don't like real socialists, but as Yogi put it, the future ain't what it used to be and socialists ain't either. See GPap, Socrates, and Zapatero for showroom model demonstrations. So the way I figure it, DSk got stung for the IMF. But how would his policies varied from Lagarde?

My instincts tell me me it they are establishing a mechanism to deal "something".

It makes me think back to a TV Jesse Ventura show (Conspiracy Theory maybe?) that I watched a couple of years back. He located a bunch of newly constructed prison-like compounds that were empty. He never got any answers regarding their purpose.

HR 645, National Emergency Centers Establishment Act, did authorise the construction of several FEMA camps some years back. For logistical purposes these are indistinguishable from concentration camps and may be used for benign emergency relief purposes, as the legislation specifies, to house large numbers of displaced populations or domestic refugees, but could be adapted for systematic extermination of undesirables.Its rumored that more camps have been built, funded from different sources, and that a subsidiary of Halliburton was heavily involved with construction work on the camps authorised in HR645. It has been confirmed that KBR, subsidiary of Halliburton, has recently been contracted to staff these camps, which makes sense sinisterwise.

http://www.opencongress.org/bill/111-h645/text

A search on 'halliburton FEMA' gets typical results, some useful.http://static.infowars.com/2011/12/i/general/kbr-doc.pdfThe emergency centers are principally an expansion of the prison-industrial complex to include dissident gulags and forced labor camps, if not intended for outright genocides.

The provisions for indefinite military detention without possibility of legal appeal as formulated in NDAA 2012 would upon implementation constitute a defined warcrime for mistreatment of prisoners of war as protected under the geneva conventions.Domestic implementation of the provisions for military detention of US citizens detained domestically, by declaring any part of US territory a warzone, would result in defined acts of treason for levying a state of war upon the US.

West LB's decision to withdraw from the financing package was unexpected. The placement funds essentially replace the debt funding that West LB would have provided. "This will reduce the Company's gearing and allow us to continue with development of the Wonawinta silver Project" said Mr Lawrence.

Here is an example that we will be seeing much more of. The German bank West LB had promised to fund this silver mine in Australia but withdrew at the last minute and the shareholders were obliged to come up with the funds instead. Obviously, Australian banks far prefer lending to housing speculators than to miners who are actually creating real wealth.

I appreciate the comment & links. The static.infowars.com/KBR link describes 5 "regions" that seems familiar to me from a Peak Oil movie I've watched (several times). Is this the same thing? If I remember correctly from the move, the Fed Gov walks (or disappears), and now we are left with these makeshift "regional" govs?

It seems odd to me that stuff like this is so interesting to me but not to anyone that I am around. To me it is realism, but there is certainly something to be said for "ignorance is bliss". I guess it's just not my style.

I understand that the Federal Reserve is a private company like any other bank. Who owns the shares of the FED?

From a comment of KD website:

http://market-ticker.org/akcs-www?post=199344

"For example, in the United States, four private banks collectively own just over 50% (controlling interest) of the Federal Reserve stock (Bank of America, JP Morgan Chase, Citigroup and Wachovia/Wells Fargo). And the top 10 banks, own over 68% of the stock.

Basically, 10 "too big to fail" banks control the monetary policy of the United States and inexplicably, the Federal Reserve regulates its owners in a conflict of interest. Why are we surprised that the Federal Reserve, a private corporation, consistently acts in its own interest through bail-outs, poor regulation and a countless barrage of Ponzi schemes (e.g. $600+ trillion in derivatives)?"

"Apparently 89 million Americans are taking some form of anti-depressant rendering one`s emotional range narrow, so narrrow as to be compared to the emotionally shallow range of feeling by psychopaths. Bingo. If our feelings are numbed we sure won`t notice we are being abused."

This may be a bit of an overstatement. Despite claims to the contrary, many people at least subliminally perceive their situation of oppressive "hopelessness". This chronic recognition is pretty stupefying in and of itself. I would not be surprised if most TAE posters are taking psychoactive medications, and most of us are not picture-book sheeple. Multiple claims have been made that for most people, psychoactive meds are nothing more than expensive placebos. BTW, these comments are in no way meant to be critical of TAE.

http://www.filmsforaction.org/Articles/The_Top_10_Films_that_Explain_Why_Occupy_Wall_St_Exists/One of the most entertaining yet unsurprising aspects of Occupy Wall St has been the response from traditional media. Whether intentionally playing dumb or genuinely clueless, the mainstream media has failed to inform the public and substantially address the key issues. But why are tens of thousands of people risking arrest all over the world, setting up encampments and protesting the status quo?

For everyone who has been following independent, alternative media, the answer is obvious. People who have been clued in to what's been going on in this country for the last decade are responding: Finally! A movement to match the scale of the problem is taking root here in America!

A new cultural zeitgeist is growing increasingly more visible in the shadow of the old - one that is steadily zeroing in on the root problems that are paralyzing the prosperity of our future: corporate personhood, an undemocratic system of government, a centralized fractional-reserve banking system, neoclassical economics and capitalism itself

"The BIS quarterly review, which was published last week, provided some interesting thoughts on current liquidity and funding conditions (both secured and unsecured) — and how central bank transmission mechanisms have been affected as a result.

An important consideration, yet to be fully appreciated, is the divergence between private and public collateral and funding markets.

Simply put, back in the pre-crisis days the two markets worked in tandem. Participants engaging with the ECB did not differentiate on the type of collateral they delivered to the ECB versus the type of collateral they held back for use in private funding markets.

The crisis changed all of that.

Suddenly the cheapest collateral to deliver became the collateral of choice for ECB use. The most expensive or ‘quality’ collateral was held back for use in private markets.

A tale of two collateral markets

This is how central bank transmission mechanisms began to be compromised.

The private funding markets, dictated by interbank participants, could from now on only be influenced by large quality collateral holdings — which the central banks increasingly lacked. The public funding market, dictated by central banks, became the domain of trash collateral — which no one really cared about.

The central bank monopoly on the ultimate cost of money thus became based around access to trashy collateral, not quality collateral — which remained the preferred funding option for private markets.

Unfortunately, it’s private liquidity which ultimately determines the scale and depth of the eurozone crisis — and it’s in this market where ECB influence is waning."

@Seychelles, It is possible my comment on medication is an overstatement. I am known to form opinion before all the data is in:)This idea that meds are one of the causes of our societal passivity, IMO, has merit.That said the use of " calming " meds does serve to inhibit response. Yes, many on meds perceive the abuse but lack the intensity of feeling required to move to action.Combine a medicated population with a daily dose of TV and the sharks feed unmolested.

Dec. 19 (Bloomberg) -- "Eastern European countries may need to tap existing international support packages or request more aid from the International Monetary Fund should capital outflows from western banks in the region deepen.

Countries with no assistance currently in place should negotiate international aid packages to “boost confidence enough to ensure that the bear case does not materialize,” economists Pasquale Diana and Jaroslaw Strzalkowski at Morgan Stanley in London wrote in an e-mailed report today.

Eastern Europe, where western European banks control about 80 percent of the banking industry, risks a financing gap as parent banks are being squeezed by deteriorating loan quality and slowing economic growth. Capital outflows would exacerbate the region’s credit crunch and hurt domestic demand. Western banks lent 139 billion euros ($181 billion) to eastern Europe, Morgan Stanley estimates.

“We look at deleveraging pressures and find that aggressive retrenching, not our base case, by western European banks could leave a funding gap in central and eastern Europe such that most countries except the Czech Republic would probably need to tap existing support packages or negotiate more assistance with the IMF and the European Union,” the report said.

Hungary may need around 12 billion euros in IMF aid “to restore confidence,” it said. Romania’s precautionary credit line of 5.4 billion euros with international lenders “may not be enough under a severe” deleveraging scenario.

“We continue to think there is no case for a ‘big bang’ withdrawal from the region,” the report said. “For the banks in particular, we think that the IMF, EC involvement in any given country in central eastern Europe would be particularly encouraging.”

"A tax break for 160 million U.S. workers was in doubt on Monday in the face of strong opposition from Republicans in the House of Representatives who have rejected a two-month extension overwhelmingly approved by the Senate over the weekend.

House Speaker John Boehner, the top Republican in Congress, demanded a fresh round of bargaining with the Democratic-controlled Senate to extend the payroll tax break through the 2012 election year.

Angry Democrats accused him of reneging on a deal brokered by Senate Republican leader Mitch McConnell and his Democratic counterpart Harry Reid. The two eked out a modest two-month extension on Friday after failing to break a deadlock over how to pay for the tax break for a full year.

The Senate passed the measure by 89 votes to 10 on Saturday. The House is set to vote on it on Monday, but the strong opposition of House Republicans means they will most likely try to amend the Senate bill or seek the negotiations demanded by Boehner.

Either way, it will be difficult to settle differences between the two parties with less than two weeks left before the tax break expires. Without congressional action the tax workers pay into the Social Security federal retirement program will rise to 6.2 percent on January 1, from 4.2 percent.

The end-of-year fight, which many had thought had ended with the Senate deal on Friday, will further deepen widespread perceptions of dysfunction in Washington."

#4. How might the bond market impose discipline on the FED when the FED is already the largest holder of treasuries? In other words, what prevents the FED from buying up any treasuries that others might sell?

Exactly!

This seems to be the most significant point of contention between the inflation and deflation camps.

Statements made by Mrs. Merkel, in Germany, this morning would have us believe that both the US Fed and Germany’s influence on the ECB would result in a willingness to accept a severe deflation, rather than willingness to accept a severe inflation.

I firmly believe there is no political will, on the planet anywhere, but especially in the Western world, to invite a severe deflation.

As the deflationary forces continue to surface you will see the absolute opposite. I firmly believe you are more apt to have QE to infinity than you are to welcome rising unemployment and declining business activity.

This is similar to Jesse's opinion that in a purely fiat regime, deflation is always a policy choice.

It's no surprise that the bond market can jack up interest rates on Greek sovereign debt, given the size of the economy and the fact that they can't even print Euros.

But the bond vigilantes versus Ben Bernanke?

Somehow I don't think Ben is trembling in his boots!

Yet the bond market's ability to send interest rates on US treasuries skyrocketing if QE gets out of hand is crucial to the deflationary outcome predicted here at TAE, is it not? The rising interest rates will cause an immediate cascade of debt defaults, which is deflation by definition. That's why ALL ROADS LEAD TO DEFLATION, right?

I wish I&S would clear this up with a post specifically on the bond market, and how it will prevent an inflationary outcome. Clearly a lot of people don't understand this part of their argument at all.

I'd like to post a question for your feedback. I've mulled this over myself but cannot decide the appropriate course of action. I have a mortgage on the house, less than $12K, and a HELOC of about $13K. Knowing that Stoneleigh encourages paying off debt, I could eliminate both but it would pretty much wipe out any available funds. If the credit markets seize, I'd be hard pressed to access monies, I'm afraid.Should I pay off the higher interest rate mortgage or perhaps pay down 1/2 on each? Both payments each month are manageable.

Just a huge example of Gresham's Law. No surprise. Same thing that the Fed was doing. Buying toxic waste at 100% of nominal value, or accepting it as collateral from deadbeats. In the case of the ECB, it is only connected to supposedly sovereign countries by treaties. In the case of the Fed, it of is course totally privately owned by corporate stockholders. The USA big 5 own almost half of the stock, and the 10 largest banks in the USA own about 65% of the Fed's stock. Then the question arises who owns these banks, which brings up the Bank of England and the Rothschilds.

Of course the Fed was foisted on the American people by a scam arranged between the bankers and Woodrow Wilson during the 1913 Christmas recess. In theory the Fed could be shoved out into the cold with its current balance sheet including the toxic waste shifted from its shareholders own balance sheet by a simple act of both houses of Congress signed by the president. Could be done in less than a week. Wonder how long the Fed and its TBTF :-) shareholders would last when disinherited from the "full faith and credit of the US treasury." Probably measured in nanoseconds. Of course, the political power structure being what it is, this is not going to happen for quite a while if ever, but I need something in my pipe to smoke.

OTOH, buba (buba is the Bundesbank, not your cellmate in a FEMA camp) is becoming worried that this huge bag of crap is going to wind up on their doorstep as the only country and central bank in the EZ with deep pockets. There are arguments that the Bundesbank is pressuring Merkel to leave the EZ as they are coming to the conclusion that the immediate hit that Germany will take to its economy and financial structure from leaving is less than from staying in. Interesting argument.

also

Watched Fishead last night. Well worth the watch both from the standpoint of content and artistry. Vaclav Havel play a major role in it which is strange as it was recommended on TAE prior to his death announcement (I believe). Also sparked the psychopath discussion (again). The primary theme of the documentary is whether the financial world is run by psychopaths (as clinically evaluated), and if yes, what may be done about it. The remedy of the film is for the 99% to act in anti-psychopathic fashions and spread it around. One issue that I find debatable and a core feature of their argument is that psychopaths do not experience anxiety. A female friend of mine was almost murdered by the famous serial killer psychopath,Ted Bundy, several decades ago, and I researched his life a bit at the time shortly after he was executed. It appeared that he was in fact a very anxious person. The claim that SSRI tends to put one in a sociopathic condition (the film in short defines sociopathy as psychopathy lite) would be undermined if psychopaths are not, subjectively, anxiety free. I intend to research this more.

"Yet the bond market's ability to send interest rates on US treasuries skyrocketing if QE gets out of hand is crucial to the deflationary outcome predicted here at TAE, is it not? The rising interest rates will cause an immediate cascade of debt defaults, which is deflation by definition. That's why ALL ROADS LEAD TO DEFLATION, right?"

I'm not sure you understand this part of the argument. While rising yields on US sovereign debt would lead to severe debt destruction in the private sector, it could also cause a positive feedback dynamic in which yields climb so high that the US government is forced to default on its obligations. The Fed could try to offset the plummeting demand for treasuries from foreign investors, it would likely be insufficient to stem the loss of confidence in treasuries and the USD as safe haven stores of value. It would also depend on how much the USG is actually spending at that time, which will probably not be much lower than what it is spending now.

That's why the USG/Fed cannot keep spending/monetizing to their heart's content and completely ignore the shackles of the international bond market. This is also why pundits arguing for a complete fiscal union of the EU and the ECB monetizing sovereign debt will also be surprised at how little effect that would have on sovereign yields in the medium to long-term.

Once the US gets caught up in a sovereign debt crisis, then we very close to the end game of dollar HI and demise of the global reserve system. That is still a few years off, though, as public and private debt deflation around the world leads capital to flow towards the the perceived safety of USD and Treasuries. That will keep yields relatively low and interest expenses cheap in relation to other countries, which will be much more ripe targets for the "bond vigilantes".

A tough call, but this is how I figure it. Suppose the depression goes into overdrive and you lose your employment.

1) Pay off your house debt.

You are safe in your house (other than property tax) but you have no savings for essentials. However, property taxes are enforced by municipal governments which means that debt serfs have the most political clout to affect them, though one may expect to see the power of municipal governments usurped by state governments in the future in order to diminish democratic control. Already happening by il Duce di Wisconsin.

2) Don't pay off your house debt.

You have money for essentials and taxes but now run the risk of foreclosure when you cannot pay your loans and mortgage. Another danger is that your savings can be stolen by Jon Corzine - J P Morgan and you wind up with nothing. If I&S are correct, your house's value will only be for personal housing and have a steadily and rapidly decreasing value as a financial asset.

Decision would also be based by data not supplied.

Is your house currently underwater?If you lose your employment would relocating make sense?Is your current house a potentially viable doomstead?How safe do you realistically view your employment when the hammer hits harder (on a relative basis)?How closely are you socially networked into your current community in terms of extended family, friends, and neighbors?What is the rental market for housing in your area?Can you cut expenses to the bone more now and increase your savings?

Home is not underwater. Doomstead, yes. Relocating not an option. Family, no; friends, yes. Of course, under difficult circumstances, family may suddenly decide to become friends. ~

Rental market, I don't know. I've pretty well cut expenses except for caring for the animals. Employment is iffy: I still don't work much d/t a neck injury last May and, despite the media hype, healthcare isn't the job market it used to be. I don't have many to buy for Christmas and I've only bought "token" gifts, but after the new year I intend to refocus my efforts on trimming the expenses.

With total home loans at $25k I should have realized that the chances of the house (assuming it's not a tent :-) being underwater is small.

One option you might not have considered seriously is selling the place, putting the money in cash equivalents at td.gov, renting, and buying a house later after the market collapses further. Sort of flipping in reverse. If I&S are correct, this would make a lot of sense. OTOH, a lot depends on your doomstead development of the property, and your emotional attachment to it. Also, if you have a physical injury, the idea of physically relocating would be unpleasant.

@Memphis: I am in a similar position with regard to my house. When I retired in late 2008 (I know, bad timing!) I applied my entire TIAA-CREF pension to pay off my mortgage. Since then, I've accrued $45,000 on a HELOC @5% variable rate. My house has a lot of equity and enough rooms to accomodate two rent-paying housemates.

I still have $54,000 in my IRA, which I haven't yet tapped, as well as a small amount of savings.I've considered cashing it out to pay off the HELOC, but that wouldn't leave me with much for emergencies.

I live on temporary alimony and rents from my tenants. In another year, I'll be eligible for Social Security and for property tax relief. In Washington State, low-income homeowners who are over 62 or disabled pay much lower property taxes. As a Seattle resident, I will also qualify for subsidized utilties.

If you have the room and can tolerate living with unrelated adults, I suggest you consider renting out rooms in your house.

In your place, I'd work hard to pay off the HELOC, since it's likely to be at a higher rate of interest than your mortgage.

Having a mostly-paid-off house provides many advantages, inluding relatively low-cost, stable housing, a place to grow food and souce of income from housemates.

My grandparents in Milwaukee had a very large house with five extra bedrooms. Throughout the Depression and for many years later, they rented those rooms to lodgers, whose rent paid for the house.

One factor to consider for loans that seem small compared to the current value of the home is the potential for the calling in of loans. Also, homes with small mortgages may make attractive targets for recovering value in foreclosure. Rules will likely be rewritten to suit larger parties by making such things legal.

In the current climate of 're-hypothecated' assets, where those higher up the financial food chain can reach down and grab collateral with seeming impunity, exposure to the financial fortunes of middle-men is dangerous. The mortgage title/securitization mess in the US makes this risk more difficult to assess, but in general, the most direct connection between you and your assets is safest. There's no substitute for having the deeds in your own possession.

The OWS, ( and of course the TAE crowds), are heading in the right direction by questioning our present social and economic structures.

http://cluborlov.blogspot.com/2011/12/conversation-about-europe.htmlCLUBORLOVModern industrial economies, at the financial, political and technological level, are not designed for shrinkage, or even for steady state. There is no known method of scaling industry down to boutique size, to serve just the needs of the elite, or to provide life support to social, financial and political institutions that co-evolved with industry in absence of industry.

A far-reaching, fundamental transition, such as the one we are discussing, is impossible without the ability to improvise, to be flexible—in effect, to be able to abandon who you have been and to change who you are in favor of what the moment demands. Paradoxically, it is usually the young and the old, who have nothing to lose, who do the best, and it is the successful, productive people between 30 and 60 who do the worst. It takes a certain detachment from all that is abstract and impersonal, and a personal approach to everyone around you, to navigate the new landscape.

"S&P has downgraded the credit rating of Spain's Valencia region by three notches to BBB-, the lowest investment grade."

...

Time to downgrade Warren Buffett?

...

"Billionaire Warren Buffett spent $5bn on a stake in the bank in August, when shares were at $8.65. He is reportedly €1.5bn underwater on his stake. The shares have dipped to €4.93, meaning the bank's market cap has fallen below $50bn."

I need to sign up for my employers retirement -- it is mandatory at this point. Vanguard is one of the fund sponsors, so I am looking at their funds. I am considering their Interm-term Treasury Inv (VFITX). I don't understand why Morningstar says this is a high risk. Can anyone enlighten me?

There are also Interm-term Investment-Grade and Interm-term Bond Index.

“Well, we’re another day older and another day deeper in debt,” Douglas Porter, deputy chief economist at BMO Capital Markets, said Tuesday. “Interest rates will stay low and households have been induced to take on more debt and save less. While it may be concerning, it’s hardly surprising.”

Mark Carney, governor of the Bank of Canada warned in an interview on CBC Radio Tuesday morning, “The greatest risk to the domestic economy is household debt,” again sounding the alarm bell on excess borrowing.

However, Mr. Porter said Mr. Carney should not be criticizing households for stretching their credit when the central bank is encouraging this behaviour in the first place through extended low interest rates.

“The bank can’t have it both ways. They set a price and people will respond to it, no matter what kind of lectures we hear from policymakers. It’s a reality the bank and many others have to accept,” he said. “If we set the interest rate at 1% then no one can be surprised when consumers take on more debt and save less.”

"Like crack cocaine, credit offers an amazingly satisfying and thus addictive high. As with coke, the consequences are safely in the future--until the future arrives.

Mainstream economists and econobloggers refer to credit as a financial phenomenon which can be quantified. The most important aspect in the human experience of credit-- its great emotional power--is rarely mentioned.

Like crack cocaine, credit--the ability to buy something for which you don't have the cash--offers immediate gratification: you get the item of your desire (new house, new car, new apparel, iPad, iPhone, iPod, cheeseburger and fries, etc.,) without having to make the sacrifices necessary to pay with accumulated cash.

Like crack cocaine, credit offers the beguilement of living a larger fantasy life without having to do the work required to achieve mastery or make steady progress toward goals. As soon as the coke hits the brain, the the rush of euphoria is akin to the rush of buying new stuff: novelty and acquiring status symbols one's peers desire triggers chemical cascades which mimic the effects of cocaine.

The coke high offers the illusion of power, mastery and euphoric control: all things seem possible. The same euphoria is triggered by access to credit: all things become possible without the arduous "effort shock" of gaining mastery and accomplishment via grindingly hard work, endless sacrifice and dogged perseverance.

Buying stuff on credit triggers the same reward and euphoria centers of the brain as cocaine. This is why credit is so addictive: the rewards are instantaneous-- hand the clerk the plastic, walk away with the goodies a moment later--while the consequence of the "high" are safely in the (apparently) distant future."

I realize TAE is in the business of predicting WHAT and does not typically provide a WHEN, but this all seems very imminent now. I personally lost all confidence when those Bear Sterns funds imploded 8/2007 and I'm amazed things have held together this long.

Six days till Christmas, then things get quiet till the beginning of first quarter. Does stuff start to unravel as the end of year numbers are reported?

As you implied, every single day/week now carries the potential for a large crash in financial markets, while only days with big policy announcements and/or significant back-door manipulation carry a slight potential for a decent rally. That is the completely asymmetric situation symptomatic of a highly unstable, complex system.

Trying to time whether things will get real choppy this week or in the new year is a fool's game. By some credit market measures, things already are real choppy, and there's no telling what banking execs are yelling to each other in conference calls or rooms right now. As CHS referenced, it all comes down to when the cheap liquidity highs wear off for the major players, as opposed to average financial consumers who have been withdrawing for years now.

Speaking of which, the drug psychology analogy was made here last year:

"America has defined itself as a society of collective "drug people", pushers, addicts and associates, with our drug of choice being debt. We happily injected drugs worth 300% of our GDP straight into our veins, and made our international dealers filthy rich in the process.

The constant influx of drugs into our bodies made us feel super-human, as we were instantaneously able to afford TVs, computers, cars and homes with the swipe of a card and the flick of a pen. Of course, as any regular drug user can attest, the human biological system becomes increasingly tolerant to the jolts of external chemicals and requires ever-larger doses to achieve the same effects.

The economy rapidly became saturated with debt, since economic actors needed to take on more and more debt to simply pay off previous debts and maintain their current level of activity. In 2007-08, the private debt servicing costs overwhelmed the "high" produced from this mostly unproductive debt, in the form of artificially elevated asset prices and revenue streams, and the national body had no more financial capacity to absorb additional drugs.

With no more access to their drug of choice after a decades-long binge, the addicts began going through severe withdrawal. The drug-induced mentality of happiness, trust and tolerance was quickly replaced with collective feelings of sickness, fear and resentment..."

...Many addicts in this situation will simply refuse to face the harsh new reality and continue doing anything they can to find their next fix, especially when there is a friend or family member financially enabling them to get a few more hits from the local dealer.

In the wake of peak financial activity in the private sector, the American government popped in and told its citizens "not to worry", because it would provide the temporary subsidies, tax credits or backstops that they needed to get another debt fix.

It also whispered to the dealers "not to worry", because it would keep their profitable drug trade going, seeing as how it supported such a significant percentage of the economy and the past promises made to a now restive population. American addicts continued a sporadic debt binge for some time, but on the whole they continued to be priced out of the saturated market.

The struggling addicts eventually have to start fending for themselves, as the government's income is increasingly consumed by direct or indirect handouts, and it transforms into the "friend" who is giving up on the incorrigible addict. What's left is a society of fiendish, debt-starved addicts who, with increasingly little to lose, project their misfortunes onto others."

Greenpa also made an excellent comment under that article, which bears repeating:

"Research everywhere in the past few years shows without exception that actions like gambling, romantic love, and stock trading- have immediate and measurable effects on both the central nervous system and various endorphin system related reactions. The most recent one showed that those in the early stages of romantic love have a measurably higher pain threshold, for crying out loud. Love make you feel good? Yes, it does; and the basis is endogenous chemicals. And it wears off.

Yes- buying a new plasma TV DOES give you a drug hit. Really. Just like jumping out of an airplane blasts your entire endocrine system with adrenaline and its many chemical consequences.

I think you have a metaphor with legs there- some of which- are very real."

Egyptian libraries just can't catch a break. First Alexandria - now this.___________________

Capital Accounts interviews Mish today. Downloading it now and haven't watched it yet. I actually watch it as much for the under the glass table shots of Lauren Lyster's legs as the interviews. Just a dirty old bird.

Are credit addicts like Al Pacino in Scarface? Glad I don't have any WalMarts near by. I had forgotten about that but Fishead showed a series of one second flashes of Pacino at his most ruthless. Spending money with plastic always depresses me. Should probably sue God for miswiring my brain, but it's a rigged court.

I don't know if you remember this, but a couple of months ago I requested an explanation (for a family member) of the new risks involved in having deposits with BAC due to them moving derivatives liability to the holding company.

Well I found out recently that she took our advice and moved her deposits to a credit union.

I'm reminded of the brief discussion in "Inside Job" regarding the copious amounts of cocaine consumed by Wall St. traders. They even interviewed a former Madam who described how she would bill traders' expense accounts for seemingly legitimate purposes. What a life: gambling all day, followed by cocaine fueled orgies on the company tab. God's work indeed!

Eliza Blue, I have no idea why Morningstar would rate VFITX as high risk. VSUTX, which is Vanguard's long-term bond index is rated Average risk/average return by Morningstar. I would expect risk to increase as you move out the yield curve. Return should increase too. As of today, year-to-date returns for VFITX are 9.95% and for VSUTX are 31.21%.

Yes, I noticed the difference in ratings between Vanguard and Morningstar. I just don't get it, which is not surprising because this stuff is way over my head. VSUTX is not on the menu at my employer's retirement plan.

Morningstar one-line descriptions can be quite snarky. I forget which one read: "This fund is not drunk on yield."

One of the points in I Am Fishead that was stressed was that true psychopaths will engage in self destructive behavior; just to watch it happen.

Maybe their boundless ego thinks it can over come any obstacle and wants to test the Outer Limits with a Warp(ed) Drive Hyper-individualism in an unholy satanic alliance of the Will to Power and the Will to Pleasure.

Maybe like Max K has ranted about for years, they really are the phrase he coined, Suicide Bankers, strapped with financial explosives who will go down like Scarface doing an imitation of The Shining.

Some at TAE think the 1% are diabolically clever in a strategic sense and have thought the Ponzi through from the beginning and recognized it as unsustainable, but highly profitable for themselves while it lasts, kind of like a highly choreographed classical orchestra following every note to the end.

Some think that the 1% are not diabolically clever in a strategic sense, but are simply very talented opportunists, scavengers and improvisers in a tactical sense who encourage and facilitate disaster at every new moment and as every new possibility presents itself, like a jamming jazz player who can't even read music.

Both POVs are either end of the pathological bell curve with the majority of 1%ers distributed through the middle of the curve in a blending/mashup of perverse motivation.

You don't get to be a 1%er being Forrest Gump and as the Fishead documentary implied from the study in the Fortune 100, the percentage of real psychopaths as a percentage of the total group goes up as you approach the Apex of Power, not down.

It might actually approach 100% of the group as you zero in on the inbred incestuous .0001%.

I have been researching that episode for my new e-book "The Long Depression: The Slump of 2008 to 2031." The parallels with our own time are fascinating. German unification, and the adoption of the gold standard, had led to a boom in that country, and cheap German money had flooded Europe.

***********I think you might have interpreted this wrong-

It was not an "adoption" of gold standard it was an indemnity of gold demanded by Otto von Bismarck from France for war reparations for the Franco-Prussian war-

The panic was caused by the fall in demand for silver internationally-which followed Germany's decision to abandon the silver standard to the best of my knowledge-

The actual 0.0000001% are not diabolically clever. That is pretty obvious. However, they can hire very clever people who are trained to think, like grandmasters, 50 moves ahead. Of course the rules of chess are fixed and static, while the rules of the herd are not. Both the uber elite and their paid geniuses underestimate the herd. It builds their ego and gives them the rationalization to continue in their psychopathy. Screw the animals.

"The government has decided to stop tax returns and other obligation payments to enterprises, salary workers and pensioners as it sees the [Greek] budget deficit soaring to over 10 percent of gross domestic product for 2011.

The Finance Ministry is desperately seeking ways to contain the fiscal deficit that has swollen due to additional grants to social security funds totaling 0.5-0.9 percent of GDP and due to the lagging of public revenues in the year’s first 11 months."

Here is something else that I found from the newspaper link that you gave us.Its a situation that more and more people will find themselves as the financial crisis gets to their doorstep.Since 46% of the US population is now considered to be at poverty level, then it may be too late for them to make a move to the country.

http://www.ekathimerini.com/4dcgi/_w_articles_wsite6_1_22/11/2011_415893 Crisis-hit Greeks leave the cities for a new rural life

Although they had long been thinking about a change of lifestyle, they were forced to act after the cost of raising a family in the capital, at about 3,000 euros ($4,000) a month, far outstripped their earnings.

Although he would rather have retired to the island when he was ready, the prospect of finding another job in Athens, where a quarter of the 8,000 journalists in the city are set to lose their jobs this year, forced his hand.

"However, the course of the passenger car market in Greece remains negative, since in 2011 33.1% less vehicles have been registered compared to 2010 (92,144 units in 2011, compared to 137,808 in 2010)."

How many more people will fall below the poverty line without the tax break and the UI extension?How many more people will fall behind their mortgage payments?How many more people will not be able to buy gas for their cars?---With 46 million on food stamp and almost 50% of the population living below the poverty line maybe its time to subsidize non-profit organization to open soup kitchens.jal

That was excellent article from The Guardian. I especially liked this section which focused on Slavoj Zizek's "Living in The End Times", and the statement by John Gray:

"The impossible is becoming possible," as Žižek puts it in Living in the End Times, and he doesn't mean in a good way. Gray says: "We've moved from a delusional optimism to a sense of intractable difficulties: resource scarcity and enormous debts; the erosion of bourgeois life; the inability of politicians to solve big problems; the realisation that the economic problems of the 70s weren't really solved; the realisation that the window for doing something about climate change – the next five years – will be entirely occupied with trying to restart economic growth."

Meanwhile, for westerners who instinctively look to other countries or big political ideas for inspiration, the possibilities seem to be withering. The US appears economically declining and politically dysfunctional. The EU is damaged and possibly disintegrating. The social democracy of Europe's postwar golden decades seems unable to modernise itself. The ability of Thatcherism and its international variants and descendants to rescue countries from national decline – if that ability ever truly existed – seems to have run its course.

Žižek argues that over the past five years the west has suffered a form of bereavement. To describe the resulting mindset, he uses the famous "five stages of grief" model devised in 1969 by the Swiss-American psychologist Elisabeth Kübler-Ross: denial, anger, bargaining, depression and acceptance. The current combination of public doominess and desperate-looking political summits certainly seems to feature the middle three. Gray sums up the prevailing mood more succinctly: "People are afraid – for good, practical, experientially based reasons."

The description of how "doomerism" has been creeping into popular entertainment - movies, TV, books, art, etc. - also fits in well with Prechter's theory of socionomics, which describes the economic cycle in terms of fractal patterns of changing social mood and predicts such developments. I tend to view the situation as involving less of a causal relationship, and economic developments driving sociopolitical ones just as much as the reverse (if not more), but it is still a very unique and insightful mode of analysis.

I am on MST and I downed my first cup of coffee to the tune that the Euro and US equities markets had a lift off of a huge 2.5%. Yet the Hong Kong Hang Seng which usually reflects global equity sentiment was essentially unchanged. So this wondrous risk on vote of confidence awoke with the opening of Euroland. But as the Firesign Theatre so presciently phrased it 45 years ago (that in itself was a very scary calculation), "What are the rumors behind the news."

Well, it appear to be a new noodle in the alphabet soup that central banks distribute to banksters near you to keep their insolvency under the carpet. It appears that the ECB will now lend money to banks via the LTRO. Yeah, I never heard of it either, but like many here, I am just a finance layman who avoided the subject until five years ago with the same intention as one avoids a five day smushed cat in the middle of a residential street. But the omniscient Google soon revealed that this was an ECB operation titled the Longer Term Refinancing Operation.

And what is it going to do that makes the equities so ecstatic - near closing at +3%? As far as I can make out, it is a total Ponzi circle jerk. Well first it is a repo. A repo is a de facto loan that goes on the books as a sale, made famous by the late Lehman Bros. It is a way of hiding insolvency. So A sells to B an asset, but there is an underlying contract that B will buy the asset back at a somewhat higher price after a certain duration. So in reality it is really a loan where the asset is the collateral, the time is the term of the loan, and the difference in price is the interest. So why not just do a loan. Well, if you do a loan, then the asset is on the one side of the balance sheet and the loan is on the liability side. If you do repo, then everything disappears from the balance sheet. Once again, I am no expert. This is just what I am figuring out in the last week or two.

Getting back to the ECB and LTRO. Usually repos are measured in days or weeks. But now the ECB is giving them out for three years - thus the longer term. As far as I can figure, the de facto interest rate is in the area of 1%. Now the banks that apply for this pseudo loan are supposed to invest the money in PIIGS sovereign debt. Some analysts say that a bank would be crazy to buy debt longer than the three year term of the repo, because if they couldn't roll the pseudo loan at a very low rate, they would be screwed. During the first three years though they are making a very nice carry. A similar deal is going on between the Fed and the Primary dealers where they borrow the money from the Fed at less than 1% and buy 30 year T-bonds at around 4% with the debt slave picking up their 3% carry. This is one of the main pathways that the Fed is recapitalizing the TBTF banks (along with buying up their toxic waste at nominal value).

But back to the ECB. Where is the ECB getting the money to lend to the banks? They are inventing it out of thin air just like our Fed. The ECB is disallowed to buy bonds directly from various treasuries at their initial auctions but they are allowed to buy them from banks. So this is just a gimmick to get around the "law." So why this new "operation?" The ECB has been buying euro sovereign bonds bonds from the banks for a long time. Maybe the banks are so broke that they don't have the cash to buy the bonds unless the central bank lends it to them first.

If it is really a "legal" repo, then the end result is that the ECB has bought the PIIGS bonds (check), help to recapitalize the big banks (check), and it gets their "money" back from the banks in three years when the banks have to buy back the bonds, assuming the banks can buy them back. If the banks are belly up in three years, then the ECB is stuck with the bonds, which may by then be defaulted and valueless. Only the debt slaves of Europe get screwed. No wonder the debt and equities markets are happy.

In any event, this is the ECB monetizing the debt in a de facto QE fashion. If this is a true repo operation, then the bonds will appear on the ECB balance sheet (which has become even larger than the Fed's lately). The markets are happy because the ECB is starting a de facto QE monetization. As stated many times, I am no expert in this area, so would welcome feedback and correction.

I would not call the ECB 3yr LTRO a "de facto QE". The reason is because the ECB is still relying on private investors (banks) to support the peripheral sovereign bond markets when those investors still cannot afford to do so. Their primary concern is preservation of capital, and a couple hundred bps carry trade over three years does nothing towards that end if public finances continue to deteriorate and the countries remain virtually insolvent.

Instead, the banks will use this opportunity to post toxic bonds as collateral for ECB financing and then use that money to finance existing positions or for "safer" assets, such as Treasuries and Bunds. I suspect ZH and Peter Tchir are correct when they say this operation will support a "risk on" mentality for a few weeks at most. Despite all of their numerous ethical, emotional and cognitive shortcomings. the major banks understand that austerity and snail-paced "fiscal consolidation" will only make the sovereign solvency problems worse.

Meanwhile, the banks remain acutely vulnerable to their own solvency issues from their increasingly toxic balance sheets and short-term capital raising requirements. I think Tchir's analysis from earlier today was very good. His conclusion:

"So what will happen?

There will be significant interest in tapping the LTRO for existing positions. Some small amount of incremental purchases may occur at the time, but the banks will use this to finance existing positions. This should help bank credit spreads. It should also show up in measurements like OIS as it would reduce pressure in the interbank funding market. This is positive, but a relatively minor positive, and seems more than priced in.

We will likely see the yield curve in Spain and Italy steepen sharply at the 3 year point. Buying longer dated Italian paper will remain very risky and the banks will be more interested in retaining positions 3 years and in.

I think we have already seen the initial impact. Now we will wait to see rates do well, but will be disappointed. The big banks with risk management departments will decide to decline. The risk/reward just won’t be attractive to them. We will find out that places like DB don’t participate and that small weak banks do. That will actually start another spiral on those weak banks, as people will sell the shares and they won’t find lenders outside of the ECB as no one will trust their discipline. In the end, this won’t do much for the sovereign debt market, but will shine a spotlight on which banks should be shorted and will possibly expedite their default."

A lurker friend pointed out this mistake. Glad there is someone out there that reads my stuff :-)

So A sells to B an asset, but there is an underlying contract that A will buy the asset back at a somewhat higher price after a certain duration.

@Ash

"I would not call the ECB 3yr LTRO a "de facto QE". The reason is because the ECB is still relying on private investors (banks) to support the peripheral sovereign bond markets when those investors still cannot afford to do so."

OK. I don't get it. I was under the impression that the ECB was lending to the banks on the condition that they bought PIIGS debt. Is that incorrect?

Where is the money coming from that the ECB is lending in this "operation."

The Fed didn't buy directly from the treasury when they financed the QE's either. They passed the money through "private investors," namely the primary dealers (now devoid of MF Global).

There is certainly no condition that the funds be used to buy PIIGS debt, unless you consider Sarkozy begging the banks to buy that debt a "condition".

The Fed's QE1 and QE2 programs were used to actually buy a specific amount of Treasuries, with the PDs acting as the normal conduit for treasury auctions and earning their typical fees, plus a built-in subsidy due to the fact that the Fed paid a bit higher than market value. The PDs were not taking on any capital risk in that situation (not that there is much risk to owning treasuries right now, anyway).

The ECB, otoh, is lending money to the banks. The reason it is more favorable than their traditional bank financing operations is because the maturity of the loans has been extended to 3 years, and it is only charging 1% interest. In addition, the ECB is now accepting a wider range of collateral beyond triple A rated debt. Therefore, the banks can pledge Spanish and Italian bonds as collateral for these 3-year repo loans.

Many are arguing that this is a big deal because the banks will decide to use the loans to lend to the PIIGS for less than 3 years, earning whatever the interest rate is minus 1%. For example, it could lend the money to Portugal for 3 years at about 6-7% and earn the 500-600bps difference. These people are forgetting that the banks are still taking on the very high risk of capital depreciation over the next few years, with the downside being all the way to 0 (Greece, Portugal or Ireland defaulting within 3 years - an almost assured scenario at this point).

Therefore, they will choose only to buy short-term Spanish and Italian bonds with the ECB money, and only then at the margin, rather than loading up to the gills with them. On top of that, the ECB is most likely signaling with this operation that it is not even close to capitulating and becoming a lender of last resort to sovereign governments, which is really what the major banks want. We will find out tomorrow how much money the banks are actually willing to borrow from the ECB for 3 years. I believe the "estimates" range from EUR50bn to EUR650bn...

jesCanadian constitutional lawyer, Rocco Galati, on behalf of Canadians William Krehm, and Ann Emmett, and COMER (Committee for Monetary and Economic Reform) on December 12th, 2011 filed an action in Federal Court, to restore the use of the Bank of Canada to its original purpose, by exercising its public statutory duty and responsibility. That purpose includes making interest free loans to municipal/provincial/federal governments for “human capital” expenditures (education, health, other social services) and /or infrastructure expenditures.

Statement of Claim filed in Federal Court against Bank of Canada et al.

"I am glad to have spent some months in California in the summer of '69 - when America was at its richest, and the girls were still slim :)

LOL ... and does that stir memories! I left school in LA in 64 and thenreturned to LA in 71 ... the girth increase was unbelievable even in that short time span. Magnificent girth-spread came to Canada about 5 years later. That is why our housing market is still floating in la la land, we up here are usually about 5 years behind those trend setting Yankees. Add another 'LOL' here!

Thanks, you made it a lot clearer. I had never heard of this program before my first cup of coffee this morning and the sight of a moon launch on the S&P500. But you never answered the question of exactly where this money is coming from which may reach as much as euro 600B, and if it is the proverbial out of thin air and just added to the ECB balance sheet, why wouldn't this be monetization? Admittedly, the banks can't buy eurobonds like the Fed buys treasuries, because they do not exist yet, but doesn't inventing money to buy sovereign debt in the eurozone also qualify? As Al Smith liked to say, "No matter how thin you slice it, it's still baloney."

The money lent to banks by the ECB is "printed out of thin air" as any loan would be in this system. It is not "monetization", though, because it is a loan backed by collateral [albeit shitty collateral] that must be paid back. The ECB is not technically purchasing any assets from the banks.

The banks can "freely" decide what to do with the money they borrow from the ECB. As usual, Peter Tchir does a good job explaining the two basic options that people seem to be debating now. One option leads to this LTRO being a "big bazooka" towards stabilizing the EZ sovereign debt/banking crisis, but this one is filled with ignorance and propaganda, as is typical now of any "major plan" coming out of Europe.

The other option makes a lot more sense. It can be summed up as "there is absolutely no reason for banks to increase their exposure to EZ sovereign debt unless Germany/ECB announces they are willing to backstop all of that debt issuance for years to come, and that obviously hasn't happened yet. Here is Peter Tchir:

"Once again we seem to have a discrepancy between what “credit” people think and what “equity” and “FX” people think. The broad market rallied strongly today, at least in part because of the LTRO.

On one thing, everyone agrees, the take up rate will be high. There will be strong demand for the LTRO. What differs is the impact that will have on the market.

At one end is a belief that banks will be borrowing this money so they can purchase new assets. The allure of carry will be too much to pass up, and with government encouragement, they will rush to purchase new sovereign debt and maybe even lend more. That will turn the tide in the European debt crisis since there will be buyers for every new issue, and the market can move on to “strong” economic data in the US.

The other end of the spectrum is that the banks will use this facility to plug up existing holes in their borrowing. They won’t have to rely on the wholesale market or repo market as much as they can tap this facility. It will take some pressure off of the “money market” as banks won’t be scrambling for as much money every day, or over year end, but it won’t lead to new asset purchases by the banks. Banks need to deleverage and that hasn’t changed. The bonds can have a 0% risk weighting, but that doesn’t mean anyone, including the banks, believe it. The road to hell is paved with carry. That is an old adage and likely applies here."

@jal - still the improved new car sales in November are somehow in conflict with the hunger in Greece story. If the gdp per capita in Greece is 1.5 that of Slovakia($21,000 to Greece’s $32,000 according to http://www.economist.com/blogs/easternapproaches/2010/08/slovakia_and_greece - from a quick googling) then I would say there is lot's of room for reducing it and still not even bordering the hunger area.

I don't really disagree with the overall thesis that there is a contraction, and I do even buy the story about the new Great Depression or Long Depression coming - but even if what is coming is a contraction on the same level then at least for us in the Western world there will be a huge difference because now we have huge margin buffering us from the level where hunger becomes a problem. We can adapt to much more than we think and we can let go lot's of luxuries that now seem indispensable.

You and El Condor had a rather complicated back-and-forth above on the possible reasons for the current market boost. Could you nut-shell it a bit, that is, have the manipulators found some new tools, ways to keep us (the world economy) pumped up a lot longer?

@AlexI doubt most people can adapt anymore, because they simply have not seen anything else any time in their lives. Sure, it's great to say we will adapt because we must, but how many will indeed adapt?

As a wise man has put it:"Things are going to slide, slide in all directionsWon't be nothingNothing you can measure anymoreThe blizzard, the blizzard of the worldhas crossed the thresholdand it has overturnedthe order of the soul"--Leonard Cohen The Future.

China is set to unveil a plan to impose controls on total energy consumption. The new plan, together with an energy-intensity target that has already been set for the period between 2011 and 2015, will provide policy guidelines for energy conservation and the reduction of emissions.

but they have not dealt with population growth... hm, hm... And their housing bubble bursts... massive bankruptcies coming...

Partisan or not, anyone who uses the word Socialism to describe a political system that includes no guarantee to, say, housing or health care has already squandered whatever opportunity may have existed for reasoned debate across ideological lines.

He loves data that proves his own points, but puts "wealth gap" in quotation marks as if it were somehow debatable.

We feed the poor too many crumbs, it seems. What they need to motivate them is a taste of real hunger.

To balance things out, he does regret that the rich are over-fed as well. But then, they own the table.

Bless his heart, what has always disturbed me about Orlov is that like most everyone in the US, he too rests his conclusions on the presumption that the US' nuclear primacy will never be challenged, let alone overthrown.

Meanwhile we watch the very executive branch carefully and thoroughly winnow the founding documents of all meaning and potency. We watch them build the camps. Some of us even question the depths of the Denver Airport, the bunkers which are FEMA's Mount Weather - and they arguably steer everything now through tools like Chertoff's TSA - and the many earthquakes along 37 North, which seismographically lack an initial P wave, indicating that there is some strange, great fracking event going on down there... the sum of which leads me to wonder what ever makes anyone think that the US population is significant or precious enough for the "deep government" to want to protect?

Just what guarantees a picture of the nation never being annihilated by war... thanks to an overthrow from within? This slow, orderly collapse fantasy, may I be mistaken, could be the death of many.

The leaders of the land long ago went global. Orlov himself elsewhere wrote: "...there are these transnational industrial and banking mafias that run the world and they don’t owe their allegiance to any one country. And the leaders of the various countries get together and their job is to appease the people who actually make the decisions, not to make the decisions themselves."

TPTB have no allegiance to the nation, nor a motive to protect it. On the contrary, they might have yet more compelling motives to take it to pieces by force.

In other words, it is entirely possible that all the black armies, most of whom are not US-born nationals - hence no allegiance to the country nor sentimentalism towards its people - could be called onto the scene to devastate the people from within. FWIW when you scrounge into where the money goes in training well over 100 armies/year worldwide, most of the US-allied forces and those manning the hundreds of bases worldwide are not nationals. Then there are all the black ops...

Yes, armies. Very well-equipped ones. Have a look at the current police for starts if one expects sympathy.

I say they have the place surrounded. Even look up, those who like me don't believe that so many hundreds of scientists hired as geoengineers are merely being highly paid to sit around discussing rational policy alternatives to climate change. Some of us believe they are already deeply engaged with tools towards climate change, masters of technologies far more powerful than ground-fired weapons. No, things are being done right now to devastate the power of the people.

Suddenly, they could act to violently suppress entire regions. Or can someone imagine that they never will?

So as intelligent and cordial as he is, I find his vision tantamount to a deception.

Or as a very bright friend, a lifelong student of military history put it - regarding that wide, highly accessible grid of highways which covers the US west in pretty strictly perpendicular fashion - every military leader knows that a road represents ingress as well as egress. The wild west, where people keep as many as six guns per household - the ostensible last battleground - has long been set up for easy overthrow. No accident either.

Powerful stuff. Read it to the end before thinking that it is partisan.

I was with him until he started in on "entitlements" as if they represented some sort of moral collapse, the sort of irresponsible and undeserved entitlement that we often associate with the offspring of the rich, for example. The word "entitlement" is being used precisely to arouse such suspicions. But people really are entitled to their Social Security and Medicare benefits. We paid in to the system all our working lives and are entitled to draw our pension and medical benefits upon retirement. Supporters of Social Security should perhaps drop entitlements and start talking about pensions.

Just one more little bugaboo with Orlov. Perhaps he is but innocently blinded by having been born a few decades too late, but I find it ironic that, as an historian, I have heard him make scant mention of critical precedents close to hom.

A leading Japanese credit rating agency has downgraded Japanese government bonds for the first time.

Rating and Investment Information, or R&I, on Wednesday downgraded Japanese bonds by one notch from the top AAA rating to AA+ .

The agency gave as a reason the country's fiscal instability, citing the possibility there may be no review of expenditure for fiscal 2012, including social security costs, and that the consumption tax may not be raised as planned.

Japanese government bonds have already been downgraded this year by US credit agencies Standard and Poor's, and Moody's.

It's easy to find elements to criticize in any article, like "The Corruption of America" that Nassim linked. But it makes many salient points and is well worth reading and pondering in my view.Hell, I don't agree with anyone on EVERYTHING but with Ghandi on some and Churchill on some (and the StoneLady on most). Gotta keep our minds out of a box.

Primary dealers buy treasuries at auction and sell them to the Fed for Benny Bux. Net results: UST has more Benny Bux for deficit spending, Fed has more treasury debt on its balance sheet, PD's get to rip off the debt serf for 5 minutes "work" with a huge commission. Pretty much everyone one views this as a form of monetization.

ECB LTRO

Banks sell shitty "collateral" (my understanding is that this is technically a super long (3 year) duration repo operation) to the ECB and receive Zynga euros (similar in content to Benny Bux) in return. Since it is a repo, they don't have to pay the minimal "interest" for three years when they are required to buy the bag of animal droppings they deposited with the ECB back (assuming that said banks, the world, or Europe at least, hasn't come to an end.) If the bonds the banks sold as pseudocollateral already exist, this is technically not monetization.

You make the distinction that this is not QE because the Eurozone cannot auction eurobonds. It has no European treasury, only a central bank, which sorely aggravates the NWO. In the case of QE for the USA and the UK, the freshly created Zynga money must go into the national government coffers. Apparently the eurozyngas don't have to be invested in new European sovereign debt by the banks.

So this appears to be a straight central bank discount window operation except that it is structured as a repo and will accept subprime debt as collateral which the banks already own. Thus no monetization, at least on the surface. On the face of it, treasuries are being sold for cash to add to liquidity for the banks. But why must these treasuries be sold to the ECB? Why not just sell them into the market? This operation increases the balance sheet of the ECB which is already bloated. I think that question lies at the heart of whether this is a monetization operation or not. I maintain that the answer to this question is that the ECB is paying well above market price to the banks for their animal dropping pseudocollateral. And that the difference between what the ECB pays and the real market price is monetization.

Your explanation is clearer and longer than mine. May I differ from your conclusion?

“I maintain that the answer to this question is that the ECB is paying well above market price to the banks for their animal dropping pseudocollateral. And that the difference between what the ECB pays and the real market price is monetization.”

I’m of the opinion that inflation, which has been supported by unsustainable debts, is being refused to be recognized by not letting the “pseudocollateral” be marked to their true value. In other words, deflation. Letting all of those bad bets be properly evaluated would destroy the financial system.jal

Your explanation is clearer and longer than mine. May I differ from your conclusion?________________

I don't see any difference. The point of central bank credit expansion, say in 1955, was inflation, which is a tax on the 99%. Now that we are well into the collapse, the point of central bank monetization, is to attempt to reinflate the money supply in order to prevent a collapse of the global system. I agree with I&S, that over the long run, they have an ice cube's chance in hell. My only difference with Stoneleigh was that IMO, she underestimated the central banks' ability to kick the can down the road, but I think the can has now reached the end of the road. Beer, popcorn, and DSL.

I feel that the criticism voiced here of Orlov is essentially unwarranted. Russians have a somewhat unique sense of humor which will transfer the most horrific scenes into a form of humorous irony. But one should not mistake this for unwarranted optimism. Orlov compares the collapse of the Soviet empire with the collapse of the Usakistani empire, and sets forth in detail that the latter will be far more severe than the former for the average eater. I see no unwarranted optimism in his projections. He wrote an essay about four years ago on the merits of sailboats as homes. The first couple paragraphs where he set the scene somewhere in the future could have come out of The Road.

And this ties into the corruption article being discussed. I started to read it when it was initially posted on ZH, but stopped at some point after he had completed his patriotic duty message and got into the content. I am a slow reader and a slow thinker and don't have the time or desire to read every post. I reached a point where my brain said to me, "typical libertarian distortions and nothings new here."

Getting back to Orlov, he sets forth that when a soft fascist regime is hitting on all its cylinders it produces more wealth and prosperity for the average eater than a socialist regime. But when the regimes collapse, the soft fascist model will produce far more hardship than the socialist model. A large part of Reinventing Collapse fleshes this out. Even though I disagree with a lot of the libertarian agenda, I regard them as allies at this point in time because we have the same enemy - the hard fascist NWO takeover. If I can vote, for what it is worth which I think is very little, and somehow Ron Paul wins the Republican nomination without being murdered, which I consider very unlikely, I will try to cast an absentee ballet for him.

That said, I want to go negative for a moment about by these current "allies." I am totally fed up with them badmouthing "entitlements." Social Security is a relatively clean operation and has a funding "lockbox" currently of well over $2T. All this money was paid by employees and employers as taxes. It should be a segregated account. If the scum in Washington chose, like Jon Corzine, to "borrow" our money and invested it in bombs and Blackwater, I really don't give a shit. As long as the account has a positive balance, it is the money of the social security recipients just as the MF Global accounts were the savings of its clients before they were stolen. I regard Medicare as another story. I regard the principle as good and that basic medical care for every eater, not just the elderly, is a right, but the program is so totally corrupt, elderly, physicians, hospitals, bureaucrats combined that it has to die. My 90 year old mother used to go see a physician every week because she was bored and lonely.

My second big beef with most of the libertarians is that they keep calling fascist regimes socialist. Whether this is done as deliberate distortion or sheer stupidity is open to debate. One of the reasons I like Celente is that he never makes that error. Fascist and totalitarian socialist regimes such as the post Stalin USSR really are different. As above, Orlov's Reinventing Collapse spells out the difference in an everyday life sort of way. My third beef with the libertarians is the Marlboro Man rugged individualist, gold and lead, approach to the collapse. The irony, of course, is that these guys think this will give them a big leg up to surviving the collapse, perhaps even a ticket to the promised land. The truth is, of course, that it is a ticket to an earlier grave. There is a reason animals, even herbivore dinosaurs, organized themselves in herds. You see so much of this in the comment section of ZH along with testosterone laden pseudo bravado. Not that I am against having a firearm or three or some PM's as Stoneleigh lays out in her lifeboat posts. But neither is a panacea and both could get you into a lot of trouble.

p01 - Feminine deflation indeed. As for male deflation it happens in the "afterglow" as they say.I feel sad for those women despite their rather questionable judgement in having plastic elements inserted into themselves. Better to live with what meagre resources we're given (like my rather smallish "resources" :-)

El G - I think the only true libertarians who ever lived around here that I know of were the Shawnee and the Miami. All the rest of us are, or have been dependent in some form or another on cultural structures (socialists?). But often I do think we would are better off to simplify things as much as we can as we go along, which must be a libertarian tendency.

Re the soft/hard fascism paradigm, here's the evil wiki definition of fascism, suggesting to me that neither applies, or else we need to amplify the word "nation" to mean something supranational:

Fascism is a radical authoritarian nationalist political ideology. Fascist ideology exalts the Nation instead of the individuals and favor plans by the few instead of plans by the many. Fascists seek to rejuvenate their nation based on commitment to the national community as an organic entity, in which individuals are bound together in national identity by suprapersonal connections of ancestry, culture, and blood. To achieve this, fascists purge forces, ideas, people, and systems deemed to be the cause of decadence and degeneration. Fascists advocate the creation of a totalitarian single-party state that seeks the mass mobilization of a nation through indoctrination, physical education, discipline and family policy (such as eugenics) This state is led by a supreme leader who exercises a dictatorship over the fascist movement, the government and other state institutions. Fascist governments forbid and suppress opposition.

As for "seek[ing] to rejuvenate their nation based on commitment to the national community as an organic entity," we may be far beyond that.

I don't think TPTB want to rejuvenate the great experiment at all.

Karma... the horrid possibility that the great experiment is being set apart for what the native Americans beheld not even 150 years ago in the west. Which was not rejuvenation.

Such would be the effects of a war upon their own.

TPTB have so many other flocks to tend now that they have gone global. Nationalism for them is utterly passé. They have gone global and are ready for great unthinkable horizons in terms of culling the herd.

This is something Russia lived through on a national scale. But I am unaware that Orlov ever treated of the era of Stalin. It's a fair question to open the floor here and ask if anyone has encountered his writings on Stalin. I am not saying he has not explored Stalin, just that I have yet to encounter him take up the theme. Please post any links, anyone, if he has. I'm all ears.

Concerning the "Corruption of America" article proposed by Nassim, I also stopped reading when he launched into entitlements.

However, before that point, I almost stopped reading when I came across the lines below:"So... is America growing richer or poorer based on per-capita GDP? … This is the most fundamental measure of the success or the failure of any political system or culture."

I find that a very sad point of view. GDP as the fundamental measure of success of a culture? Thanks, but no thanks.

@ p01I took me a moment to understand the joke about deflation. Pretty funny.

I don't fully agree. The system is not so much rigged but invalid. I have spoke with MP's going as far back as the 90's and they made it perfectly clear they understood the system to be crashing around 2010. One responded, off air, that her plan was to save herself and then save her friends if possible - not all will be saved.

They aren't rigging the game they are the rats leaving the sinking ship - we on the other hand are the people dancing at the ball with the band playing while this same ship sinks.

I am slowly grasping how our deflation event will occur. I made the comment elsewhere with Greece there are only two choices either they go bankrupt or debt is forgiven - they can't pay interest. Both events will be deflationary.

What I found interesting with his graph is that the decline of US per capita income started right around the time of peak oil production in the US, and the bills for Vietnam came due, then reversed course during the North Slope Ak, and North Sea oil booms, only to dive again as we currently hit (approach?) peak oil worldwide.